Help! I paid NI for 45 years but £20 a week will be knocked off my state pension because I ‘contracted out’ – please explain?@stevewebb1 replieshttps://t.co/5rQwJAZCoS
— This is Money (@thisismoney) April 2, 2024
Ouch! I bet Steve Webb was dreading this question asked by a Daily Mail reader.
This is all about SERPS, which was scrapped by Steve Webb as part of the 2016 state pension reform but lives on for people who retired before 2016 in their pension entitlement and lives on for (some) people who (were) contracted out of SERPS by their company pension scheme by way of the COD – the contracting out deduction
There are two types of contracting out, one counts against your state pension (the company pension kind) and one doesn’t (the personal pension kind). I have a bit of both and I know that my company pension contracted me out for a few years between 1995 and 2005 while I chose to contract out using a personal pension between 1988 and 1995.
Why I get away with a skinny personal pension pot and still get my 35 years of state pension is a question that I (and John Greenwood) aren’t clear about.
Why I don’t get away with it when I contracted out using a fat occupational pension is down to the COD. This is the contracting out deduction from the state pension which is made up for in the form of a guaranteed minimum pension from my company when I get to state pension age (for me – 67).
It seems you get CODs when you get Guaranteed Minimum Pensions from being contracted out by your company pension but you don’t get a COD when you contracted yourself out using a personal pension.
This has been challenged by my friend Andrew Young who helped the DWP with setting up the State Pension and to test whether I am right, I am going to compare my COPE (what the DWP call the contracted out deduction) with the amount of GMP I get from my occupational scheme . My COPE is £38.87 pw meaning I’ll be getting it docked off my state pension when I get it. If my scheme tell me I am getting less than £38.87 then I will stand corrected, I would like to know the split. I guess the person asking the question of Steve would too!
This is making little sense, especially for people like journalist John Greenwood who stayed in SERPS got no personal pension pot and tells me he now has no more state pension than the person who contracted out but made up his years later in life (like me)
This complexity is hard to explain, which is why I went “ouch” when I saw Steve had to answer the question!
The proper answer appears to be
“it’s about contracting out – and it’s all about how you contracted out”
But that’s a pretty lame answer from the architect of the 2016 state pension reforms.
So how did the silver-penned maestro navigate his way out of having to own up to not having a logical answer to the question?
Step one – diversionary tactics
Steve Webb replies: The issue of deductions from your state pension for periods of past ‘contracting out’ is probably the most frequent question in my weekly mailbag.
I’ve explained the general idea of a deduction for past ‘contracting out’ in a previous column: Why won’t I get a full state pension even though I paid National Insurance for 38 years?
I’ll focus this time round on how you can find the private pension you are supposed to be getting instead.
This is a tactic known in parliament as “I refer the honourable member to my previous answer”
Step two – refer to more detail
As well as changes in the number of years required, the way that ‘contracting out’ affects your pension has changed.
The issue of ‘contracting out’ probably generates more correspondence to this column than almost any other issue and you can read about it in more detail here (and see the box on the right).
This is taken from the 2018 answer given by Steve to a similar query and one that got 166 comments, mainly from people as confused as the questioner.
“I refer the honourable member to guidance given by the DWP in
The new State Pension transition and contracting-out: fact sheet
Step three – talk about something else
The bulk of “how do you find your contracted out pension” answer focusses on matters of public interest
- Pension Dashboards
- Investment returns and annuity rates
- Why personal pensions don’t match contracting out deductions
In some cases you didn’t even have to put your own money into a personal pension – it was simply topped up by the Government in the form of ‘National Insurance rebates’ payable because you were contracted out.
These were known as ‘rebates only’ personal pensions and I can see why you may have less memory of a pension like this as you were not actually contributing to it.
Once you are over 55 you can access a DC pension in a variety of ways, including, for example, using the pot to buy an annuity or an income for life.
However, the crucial point is that there is no guarantee that the pension you get from this DC arrangement exactly matches what has been knocked off your state pension
In parliamentary speak, this usually allows the Minister to wrap up a debate with some grand statement that smothers any further debate on what was originally asked. You know the kind of thing…
“I would remind the house of the huge strides taken by My Government to improve the outcomes of ordinary savers”
All of which is interesting but not quite answering the question of whether you get a contracting out deduction if you diverted your national insurance contributions (and got rebates) into a personal pension.
I understand that for the time you contracted out into a personal pension, you don’t get an explicit deduction , whereas if you contracted out using a company pension ( a DB one) you do. I am being challenged on this – so expect to hear more if the DWP put me right!
My guess is that a COD can be reasonably calculated if it’s based on a Guaranteed Minimum Pension but impossible to work out if based on a personal pension, when all that was given up was a right to SERPS accrual (which wasn’t guaranteed but kept on changing).
People like John and me think that those who opted out of SERPS using a personal pension appear to “have got away with it“. The only way I can check that is to marry my GMP from my occupational scheme with my COD – if they marry – I am right.
There’s a miscommunication issue brewing here that looks all too familiar so whatever the outcome of my inquiry, it will hopefully make things clearer than my current understanding!
This is based on my own research and fundamentally on my reading of this paper issued by the DWP which doesn’t admit this is the case, but talks of everything but the question.
It is also my understanding of reading the guidance on my state pension forecast, which is well written but still gives me no way of knowing what the £39.14 they’re deducting from my state pension is all about.
So you could say that Steve Webb’s response is aligned to Government guidance. You sort of get there, but don’t! It would be easier if the DWP made a statement on how they measure the impact of making personal pensions for people like me – who have been contracted out and have done 35 years “full service”
In the past you’ve been ‘contracted out’ of the additional State Pension.
When you were contracted out:
- you and your employers paid lower rate National Insurance contributions, or
- some of your National Insurance contributions were paid into another pension scheme, such as a personal or stakeholder pension
The amount of additional State Pension you would have been paid if you had not been contracted out is known as the Contracted Out Pension Equivalent (COPE).
Contracted Out Pension Equivalent (COPE)
Your COPE estimate is £38.87 a week
This will not affect your State Pension forecast. The COPE amount is paid as part of your other pension schemes, not by the government.
In most cases the private pension scheme you were contracted out to:
- will include an amount equal to the COPE amount
- may not individually identify the COPE amount
The total amount of pension paid by your workplace or personal pension schemes will depend on the scheme and on any investment choice
If anyone involved can give me a proper explanation, I’d be pleased to read it and (with permission) publish it. Right now , I remain, Malvolio-like, in darkness.
Addendum
If you go through your Government Gateway to check your state pension forecast , you will find out if you’ve got a COD – which is now called a COPE and is the amount you have deducted from your state pension – because you get it elsewhere. This is explained here, but it gives you no way of telling how much of the deduction is for your Guaranteed Minimum Pension and how much (I assume none) for your personal pension.
Despite all my contracting out, I have 35 full years so all I’ll be losing is the £38.87 being paid me as GMP. If someone can tell me I’ve got more deductions to come, or that my GMP is less than £38.87 – I’ll eat my words and publish a retraction.
Contracting out and why we may have included a Contracted Out Pension Equivalent (COPE) amount when you used the online service
Updated 6 April 2017
If you don’t already have one, you can get a State Pension forecast. This will give you an estimate of your State Pension.
Introduction
For people who reached their State Pension age before 6 April 2016, the State Pension was made up of 2 parts:
- basic State Pension – a flat rate where you got the full amount if you had 30 years of National Insurance (NI) contributions
- additional State Pension (called State Second Pension or S2P, but before 6 April 2002 it was called SERPS) – this paid different amounts depending on earnings as well as what type of NI contributions or credits the person had and what type of contracted-out private pension scheme they paid into
They may have also contributed to the Graduated Retirement Benefit Scheme, an earlier form of earnings related State Pension, between 1961 and 1975.
For people who reach their State Pension age from 6 April 2016 onwards, the new State Pension replaced the basic State Pension and the earnings-related additional State Pension.
If you qualify for the new State Pension, we have used your NI record to 6 April 2016 to work out a Starting Amount for you. This Starting Amount calculation compared the amount of State Pension you would have received under the old State Pension rules with that under the new State Pension rules, based on your NI record as of 6 April 2016. The higher of these amounts is your Starting Amount for the new State Pension system.
Find out more about the new State Pension
What is contracting out?
Under the old State Pension rules, up to 5 April 2016, you were able to ‘contract out’ of the additional State Pension. This meant that you and your employer could pay less NI contributions into the state system. You could not contract out of the basic State Pension. You could only opt out (‘contract out’) of the additional State Pension, and you could only pay less NI contributions into the state system if you were part of a private pension – such as a workplace or personal pension scheme – that could build up to replace the State Pension you were opting out of.
Find out more about the additional State Pension
You are likely to have been contracted out of the additional State Pension if:
- you are or were in a final salary or career-average pension scheme, or
- before 6 April 2012, you were in some other types of pension scheme at work
Some stakeholder and personal pension schemes were also contracted out.
So, although you may not have realised this, when you were contracted out, depending on the type of pension scheme(s) you belonged to during the period(s) you were contracted out, either:
- you and your employer paid NI at a lower rate than the full standard rate, or
- some of the NI contributions you paid were used to contribute to your private pension instead of the additional State Pension
Contracting out finally ended on 6 April 2016, and this means that all employees now pay the same rate of NI. If you have been contracted out in the past, we need to take account of this in the amount of new State Pension you get. Do not forget that when you were contracted out, you were building a workplace or personal pension(s) instead of the additional State Pension you were opted out of.
Did you contract out?
Most people were contracted out at some time during their working life.
Many workplace pension schemes where the pension you get is linked to your earnings (for example – defined benefit, final salary or career-average salary schemes) contracted out all their scheme members as part of their scheme rules. If you were a member of a defined contribution workplace scheme (sometimes called a money purchase scheme) or bought a personal or stakeholder pension from a pension provider, you may also have been contracted out of the additional State Pension.
How does this affect the amount of State Pension you get?
Your Starting Amount for the new State Pension may be lower than that for people with similar circumstances who were not contracted out.
However, you should bear in mind that you may be able to increase your State Pension by adding further NI qualifying years before you reach your State Pension age.
Find out more about how the new State Pension is calculated
The following sections explain your Contracted Out Pension Equivalent amount.
The Contracted Out Pension Equivalent (COPE)
The pension you get from your workplace or personal pension scheme for the periods you were contracted out, should include an amount that, in most cases, will be the equivalent of the additional State Pension you would have got if you had not been contracted out. This is your Contracted Out Pension Equivalent (COPE) amount.
An estimate of your COPE will be shown if you use the online Check your State Pension service or if you request a State Pension Statement through the post. The COPE amount is based on your National Insurance contribution record up to 5 April 2016 used to calculate your Starting Amount for the new State Pension. The COPE estimate shown in your statement is based on April 2016 State Pension rates.
If you were a member of 2 or more contracted out schemes, the COPE amount shown is based on all your schemes and covers all the years you were contracted out.
We will not know the exact amount your scheme will pay you as a result of contracting-out as it will depend on the actual rules of your private scheme, and possibly any investment choices you may make.
Will my pension scheme(s) pay the COPE amount separately?
In most instances your workplace or personal pension(s) will include an amount that is equivalent to the estimated COPE amount shown in your statement. This is not normally identified specifically but is paid by your pension scheme(s) as part of your total private pension.
The date when you get your workplace or personal pension, and the full amount you receive, will depend on the rules of your scheme(s) and possibly any investment choices you make.
If you are unsure when you will be paid your workplace or personal pension, please contact your scheme to find out. If you are unsure of their contact details, you can use the Pension Tracing Service.
Will I always get an amount equivalent to the COPE amount from my workplace or personal pension?
That depends on your scheme.
(a) If you were part of an earnings-based private pension scheme
Schemes that pay an amount of pension based on your earnings (often called defined benefit, final salary or career-average salary schemes) are required to provide benefits to replace the State Pension you were opted out of, in return for allowing members and employers to pay lower NI. The private pension you built up during the years 1978 to 1997 as a result of being contracted out is called your Guaranteed Minimum Pension (GMP). If you are no longer contributing to this earnings-based private pension scheme, your scheme is required to revalue your GMP each year either by a fixed rate or by the rate of increase in average national earnings. If your scheme uses a fixed rate, your GMP amount should be higher than the additional State Pension you otherwise may have got.
In some cases, it is possible that your schemes may not pay you an amount equivalent to the COPE if:
- your scheme got into financial trouble and wound up underfunded
- your rights were transferred to a scheme that was not linked to your earnings and investments in that scheme did not perform well
You should know if this applies to you, but if you are in doubt and think you may be affected you can contact your scheme.
(b) If you were a member of a defined contribution, personal or stakeholder pension scheme
These types of scheme pay you according to the investment returns on the contributions you (and where appropriate your employer) have paid in.
This means that the actual pension amount you get will depend on the performance of your investments (for example, where your pension pot is invested, the fees you are charged and how much these investments increase), and the choices you make when you decide how to take your fund.
For instance, under the pension flexibility reform that was introduced in April 2015, you may take some or all of your pension pot as a cash payment. The amount you take will affect your private pension income amount – and if you decide to take all your pension pot as a cash payment, you may not get any private pension income.
If you use your private pension investment to buy an annuity that provides a regular pension income, the type of annuity you buy will also determine your private pension income. MY BOLD
More information
You can find out more information about:
- your pension options from MoneyHelper’s service ‘Pension Wise’
- types of private pensions
Hi Henry, grateful for your interest in my weekly column! But I’m afraid you are under a misapprehension – there’s a COD whether you were contracted out into a DB pension or a DC pension (including a personal pension). There’s lots of lovely detail in this LCP paper: http://www.lcp.com/media-centre/2022/02/on-point-paper-why-is-money-being-deducted-from-my-state-pension-the-mysteries-of-cods-copes-and-contracting-out-explained
A better link to that 21-page briefing seems to be https://www.lcp.com/media/1150050/why-is-money-being-deducted-from-my-state-pension.pdf
Thanks “Byron”
It looks like I may be in an anomaly, being able to make up lost years of contributions post 2016. But I’ll know more when I can compare my COD/COPE with my GMP at 67.
One of your advisers on this has written to me
“It goes almost without saying that new basic has fiendish wrinkles. One important one is that the effect of a COD can disappear if you pay NI post 2016. It can have the effect of moving BSP from the old rate (if we assume always having been contracted out) to the new BSP rate. I cannot remember how many years post 2016 NI that requires. But is one of the reasons Steve bangs on about being able to buy into a past year when you didn’t pay NI”
My sympathy to you Steve, for having to answer questions like this. My admiration for your tactics!
Henry, you would not be able to compare it because you have used a personal pension. The annuity you can buy for those “protected rights” (as they used to be named the funds in an approved pension plan) is based on investment return, life expectancy, and interest rates.
I have not looked how the deduction is calculated, but even for the pre-1997 GMP, from what I read it is not the same GMP formula that is used. The GMP was based on earnings in those periods, and my understanding is that deductions are not based on that, but just on the number of years.
Anyway, you will struggle to compare because also GMP uses three methods of revaluation too.
It is what it is in the end. Work a few more years and you will have a lesser deduction!
Henry, I’m in exactly the same situation. Why is the state pension forecast presented in such an opaque way? In my case I have 35 years contributions and and I have the £203.85/week “is the most you can get” statement. I then have a COPE value of £48.35. Is this deducted from my state pension at 67? If it is then a correct forecast of my state pension is £155.50/week, then it’s completely clear. This is completely ridiculous. How am I meant to plan for retirement when I may get a state pension of £10,500 or I may get a state pension of only about £8,000? The forecast in its current form is completely worthless.
I wouldn’t say worthless – as I read it you’ll be getting £155 a week from the DWP and £48 pw from your occupational scheme and/or your personal pension – (we are still looking into the splits). I agree that it does look like you are going to get a £203 pension from the state until you press all the links and I think that DWP would be advised to split the £203 out – as that’s what most of us read. The situation is fiendishly complicated for people with split state pension credits (pre and post 2016) but I intend to get to the bottom of it.
It is worthless is as much as I know I will get some state pension but am completely unclear on how much. Further the statement that this “is the most you can get” is misleading if additional years of NI contributions beyond 2016 can offset the effect of the COPE amount (as in the link shared by Bryon above). I’ve contributed for 5 years beyond 2016. At a rate of 1/35 of the state pension per year that’s ~£29.12/week. Where is this reflected in the forecast? I’ve mostly stopped work now, doing a little part time work and below the NI threshold. I have another 7 years until my state pension age. “is the most you can get” implies that paying voluntary NI contributions will not improve my state pension. If in fact I could improve it by reducing the impact of contracting out then I suspect the lack of communication for WASPI women is going to pale into insignificance compared with the issues this is going to raise.
The state pension forecast figure is after any adjustment needed for COPE. That’s why the COPE section in the forecast says “This will not affect your State Pension forecast.”. If you have enough years left after 2016 before reaching state pension age then contributions for these years offset the impact of COPE and so can enable you to reach the new capped amount (as it appears in your case). But yes this does seem to cause a great deal of confusion.
I feel a rant coming on and it’s all Steve Webb’s fault. And what is really out of kilter is that the people who were contracted-out, like you Henry, feel that they are the victims. The truth is that almost everyone who was contracted out has done well out of the deal. It’s people like me, who were never contracted out, have ended up comparatively worse off. It’s true that we get higher State pensions, but those who were contracted out will be receiving a private pension that more than makes up the difference.
The idea is quite simple, even if not the rules. People who were contracted out between 1978 and 2016, whether through their employer’s pension scheme or an APP, paid lower NI contributions. As a result, they get lower NI benefits. The COD is the appropriate deduction from their SP that, broadly speaking, is the minimum amount of pension they should receive, as part of that deal, from their occupational scheme or personal pension provider. Many of course were in good occupational schemes and will receive significantly more. This is except the poor sods who were missold Appropriate Personal Pensions (APPs), but that’s another story.
The reason those who were contracted out do better is that the COD is being reduced year by year, starting in 2017, until it disappears early in the next decade. Steve Webb explains why in a tweet: “If just one year of past contracting out was a permanent stain we would still have had people retiring in 2060 with a deduction for contracting out which was abolished in 2016!”
So, simply so his scheme would mature prior to 2060, he rigged the system in favour of those who contracted out by removing what he calls the “stain”. But this “stain” really represents fair treatment as between those who were and those who weren’t contracted out.
Just to emphasise the point, this sleight of hand favoured those with an occupational pension who, by definition, could already expect to end up with a higher pension than those who weren’t contracted out, taking State and private benefits together.
I find the various attempts to make the state pension “fair” rather ridiculous. The amount of NI that someone pays is completely unrelated to the amount of pension they get. Anyone with a limited company could avoid paying any NI and yet fully qualify for maximum state pension simply by paying themselves to the lower earnings limit. All those years still qualify for state pension. People on minimum wage paying little NI can get more back from the state as a pension than someone that paid a ton of NI despite being contracted out. All the government has done in its usual cack handed way is look at those that were contracted out versus those that weren’t. The government should have just drawn a line under the past and made 35 (or 40 years) working in this country and paying tax sufficient to qualify for a full new state pension. Job done.