Expect some serious watering down of the state pension

Topping up your state pension is probably a good idea if you are retiring this year, writes Moira O'Neill.

Topping up your state pension by making voluntary national insurance contributions (NICs) is probably a good idea if you are retiring this year.

It costs around £740 for a year's worth of NICs in the 2017/18 tax year. This will buy you (at current rates) £244.40 a year extra state pension for life.  So as long as you live for more than three years post state pension age, it is worth it. Anything after that is a bonus.

Another bonus for someone nearing retirement – or already in retirement – is the government's 'triple lock' guarantee on the state pension. This has helped people receiving state pension to tackle rising inflation over the past year.

Under the triple lock, the state pension rises in April each year by whichever number is the highest out of the September Consumer Prices Index (CPI) rate of inflation, average earnings or 2.5%. September 2017's 3% CPI inflation means that weekly state pension payouts will rise from £159.55 to £164.37 this April.

As the triple lock policy has become a symbol for doing right by older people, the Conservative government has promised that it will last until 2020. Although the Cridland report last year recommended it should be scrapped, the Tories backed down on plans to move to a double lock.

But for all the trumpeting of this 'generous' policy, the state pension is a bit of a raw deal. In December 2017, the Organisation of Economic Co-operation and Development (OECD) revealed that the UK's state pension is actually the least generous among 35 advanced economies, with Turkey, Portugal and the Netherlands ranking top for their far superior schemes. Full-time workers in the UK do relatively poorly, with the OECD report finding the average UK pensioner can expect to receive just 29% of what they earned at work.

Charity Age UK says: "Many people are surprised to learn that the average state pension is only just over £7,000 per year." This is less than half the annual salary of a full-time working adult on the minimum wage of £7.50 an hour.

And what if you are 10 or 20 years away from retirement age? The chances of anyone in this group seeing a triple, or even a double lock, or more generous pensions than Turkey, are extremely slim. The even more worrying question is if you’re under 50, can you rely on receiving a state pension at all? 

A December 2017 report from the Government Actuary's Department (GAD) makes terrifying reading. It analyses the financial position of the ‘National Insurance fund’ – the money the Exchequer brings in from NICs and pays out in benefits. The majority of these benefits (94% in 2015/16) relate to the state pension.

The GAD says:

"The current balance in the fund is comparatively low: just over one-fifth of annual expenditure on benefits. Although it is expected to increase until 2025, after this the balance is expected to fall rapidly to zero around 2032."

It suggests that a short-term solution to boost the fund's value is for Parliament to approve a 'Treasury Grant'. A longer-term view, however, is to increase NICs - the GAD suggests a 5% rise could be needed. But that would be political suicide for any party in power at the time.

So future generations can expect some serious watering down of the state pension. It may not be paid until you are 70 or even 75. Or it might be much less than it is now.

"But what about the 'funds' that I've already built up?" you cry. Well, I’m sorry to break it to you, but there is no actual 'personal' fund that you're owed.

Your NICs simply build up entitlements to whatever is on offer when you come to retire.

The money that you pay in goes out to pay for people’s pensions today. So millennials are paying for their grandparents' pensions.

"Nine billion fewer plastic bags used since the introduction of the 5p charge. Nine million people introduced to pensions since the introduction of auto-enrolment. The power of a little nudge is incredible," says Alistair McQueen, head of savings and retirement at financial provider Aviva.

But there's a big nudge that's missing. Instead, we have a deafening silence from the government that the state pension, even in its current meagre form, is unsustainable for those aged under 50.

Alongside auto-enrolment, it's time for a big push to promote DIY pension saving and to highlight the importance of not relying on the UK state pension.

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