Many individuals approaching retirement age in the UK choose to delay their state pension claim. By doing this, they can significantly increase the payments they receive later in retirement. This strategic move might sound simple, but it comes with several nuances and changes over the years that you need to be aware of.
Why Delay Your State Pension?
Delaying the state pension is particularly appealing for those still earning a salary at the traditional retirement age of 66. The main reason? It can help avoid a higher income tax bill. The full state pension is currently valued at £11,500 per year. By postponing your pension while still working, you could keep yourself from bumping into a higher tax bracket.
However, it’s important to note that many people miss the opportunity to claim their pension on time without realising it. If you don’t claim your pension when you turn 66, it is automatically deferred. This can be advantageous but also leads to potential confusion and misconceptions.
The Pitfalls of Deferring
One significant pitfall emerged after a rule change in April 2016. Before this date, individuals who delayed their pension could opt to receive a lump sum payment of all deferred amounts, plus interest, when they finally claimed their pension. However, this option was removed in 2016. Now, those who defer can only opt for increased regular payments going forward, or a lump sum for just the last 12 months of deferment, without any interest.
This change has caused surprise and disappointment among many retirees, as reported by Steve Webb, former Pensions Minister and current partner at LCP. Many were unaware of the change and had expected a substantial lump sum that is no longer available under the new rules.
The Old vs. New Rules of Pension Deferral
Before April 2016
For those who reached state pension age and chose to defer before 6 April 2016, you can still opt for a lump sum plus interest, or receive a higher state pension increased by 10.4% for each year deferred.
After April 2016
For deferrals post-April 2016, the scenario changes. The lump sum option has been removed, and now a less generous 5.8% is added to your pension for each year of deferment. Moreover, if you choose to backdate your claim by a year to receive a lump sum for that period, you lose the 5.8% uplift for that year.
Five Golden Rules for Maximising Pension Deferral
- Be Aware of Complexities: Deferring your state pension is not always straightforward. Mistakes or misunderstandings can lead to frustrating delays and complications.
- Consider Your Health and Longevity: Deferral can be a good deal if you are in good health and expect a longer retirement. However, if you have health concerns, the benefits might not outweigh the missed payments.
- Understand the Current Options: Since 2016, the options have narrowed to either an increased pension rate or a one-time lump sum for the last 12 months without interest.
- Income and Benefits Considerations: If you are still working and earning a high income, deferring might save you from higher tax rates. However, deferring will not help you qualify for low-income benefits like pension credit.
- Tax Implications: High earners will benefit from deferring, as state pension will be taxed fully if it pushes you into a higher tax bracket.
How Much Can You Receive?
The full flat rate state pension as of this writing stands at £221.20 per week, equating to an annual sum of £11,500. For those who retired before April 2016 under the full basic state pension, the rate is £169.50 per week or £8,800 annually.
Final Thoughts
Every pensioner or soon-to-be pensioner should carefully consider their options when it comes to deferring their state pension. It’s not just a financial decision but one that could affect your lifestyle and wellbeing in later years. Understanding both the old and new rules is crucial to making a decision that best suits your circumstances.