Business

Should I top up my state pension?

  • 4 April 2016
  • From the section Business
older couple on bikes Image copyright Thinkstock

The government is offering millions of people the chance to get a higher income in retirement, through top-ups to their state pension.

In many ways the scheme - known as Class 3A - looks generous.

But it may not necessarily be the best way to boost your pension, and indeed by doing so you may lose other benefits.

As a result, the Department for Work and Pensions (DWP) is advising people to get financial advice. But here are some general guidelines:


Who is eligible?

Anyone who received their pension before 6 April 2016. That means that men are eligible if they were born before 6 April 1951. Women are eligible if they were born before 6 April 1953.

The idea is that such people should be compensated, as they will not be eligible for the new - and more generous - flat-rate state pension, which starts in April 2016.

Any current pensioner can benefit. Those who live for a long time will inevitably get better value out of the scheme than those who live for a short time.

Image copyright Thinkstock

How much money could I get?

The maximum you can get is £1,300 a year, or £25 a week. This will be paid on top of the current state pension of £115 a week. How much you pay for that income depends on your age. For example, if you are 65, that £25 income would cost you £22,250. That is a one-off payment, which you will not get back. However, if you are 80 it would only cost you £13,600. You can chose to buy a smaller amount.

The government has produced a calculator to help you work out costs.


Top-up Calculator

Image copyright Thinkstock

Click HERE to use the calculator.


What other benefits does the scheme offer?

The top-up payments will rise with inflation, as measured by the Consumer Prices Index (CPI).

In addition, spouses or civil partners will, in most cases, be able to inherit some of the payments. They will get between 50% and 100% of the cash. The rules for passing on the payments are the same as they are with the additional state pension.


Who is the scheme not suitable for?

Anyone who has not got a full National Insurance contribution record - frequently women or those who have been self-employed - is likely to be better off topping up through another existing scheme, known as Class 3.

That scheme is far more generous financially, but only applies to people who have not got a full contribution record.

However, anyone who claims means-tested benefits may see them reduced, as a result of their income being boosted by either of these schemes. In particular, anyone who claims the guarantee element of pension credit, housing benefit, or council tax support may be affected.

Those whose incomes may exceed £42,385 as a result will also be liable to the 40% rate of income tax.

Anyone who is in poor health may not get good value for money out of it. Such individuals may do better to buy an enhanced annuity.


Could I get better value elsewhere?

Experts say the top-up scheme represents very good value for money. Buying a top-up at the age of 65 provides an annual return of 5.84% on the payment you make.

An equivalent private-sector annuity - which also offers an inflation-linked income for life - would provide a return of 3.69%, according to investment provider Hargreaves Lansdown.

Cost of buying an annual income of £1,300 a year
Age Class 3A Pension top-ups Standard annuity
65 £22,250 £35,215
70 £19,475 £30,128
75 £16,850 £24,743
80 £13,600 £18,800
source: HL/DWP

"No private pension company can offer such an attractive deal," said Tom McPhail, pension expert at Hargreaves Lansdown. According to his calculations, the cost of buying a pension top-up is much lower than the cost of buying a standard annuity. See table above.

However, some people may want to consider other forms of investment as an alternative. Peer-to-peer lending can offer returns of 6% before tax, and at the same time individuals would keep their capital. But, unlike top-up payments, such investments do carry a level of risk.


How long do I have to apply?

The scheme will only run for 18 months, so is due to finish in April 2017. It is not known what will happen after that. To register an interest, or to get more information, visit this page on the DWP website.

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