While government has emphasised the increased flexibility for pension savers, who can now retain ownership of their pension savings rather than hand them over to a pension company to purchase an annuity, government will also raise the tax due when funds from pension schemes are left to children and heirs. As a result, the flexibility to pass on your pension savings to your children will now involve tax rising from the current 35% to a flat rate of 55%.

In other words, pension savers will forfeit over half of any portion of their pension savings they leave in their will.

In reality, most people will still find purchasing a pension annuity to be the more attractive option, although it is no longer compulsory. However, new EU rules known as Solvency II will require pension companies and providers of pension annuities to hold more capital in reserve, which may cut annuity rates, with a corresponding onward effect on pension incomes.

The government is also reviewing public pensions, which is has called unaffordable, and a final strategy will emerge with the Hutton Report before the March 2011 budget. This is likely to usher in higher employees contributions to public sector pensions, and a continuing changeover from the generous final salary pensions to defined contribution pension schemes.

Teachers, firemen and nurses are likely to be hardest hit by the upcoming review of pension schemes.

Public sector pension schemes should pay less but demand higher pension contributions from workers in future, according to Lord Hutton, author of the interim report into public sector pensions submitted to government this month.

The report highlighted why government-guaranteed final salary pension schemes would soon be obsolete. Figures from the National Audit Office showed that the cost of this particularly generous type of public sector pension scheme has risen by a third over 10 years, leaving government with a ‘funding gap’ between pension contributions and payouts of £4bn today. That funding gap is set to rise to £10bn, according to the ONS.

Furthermore, the Hutton report showed that while civil servants pay an average of just 1.5% of their salary in pension contributions into government pension schemes, other public sector workers pay much more – for instance teachers (6.5% of salary) and NHS workers (up to 8.5%). The Hutton report termed this a ‘compelling reason’ why public sector workers should pay greater pension contributions into their pension scheme.

An added complication is the fact that with increasing longevity, public sector pension schemes have to pay out longer to retired workers. Lord Hutton claimed that public sector workers drawing on their pension scheme from age 60 was no longer sustainable, given that the expected time in retirement for a 60-year-old today is 28 years, compared with just 18 years for a 60-year-old in 1970.

There will be over 800,000 people turning 65 during 2012, compared with 650,000 in 2011, putting an incredible strain on government spending on the basic state pension, according to the Department of Work & Pensions.

The strain on the government’s pensions budget emphasises the need for consumers with no pension today to secure their retirement income with a private or personal pension.

The ballooning number of so-called ‘baby boomers’ hearks back to the post-war exuberance of the years 1946-47, although the first baby boomers were women able to draw their basic state pensions at age 60 in 2005/06. Government spending on the state pension system has risen by £14bn since 2006, and the new clutch of baby boomers coming online over the next 2 years is expected to add another £4bn or 28.5% to an already enormous state pensions budget.

The emerging problem of over-reliance on government pensions is likely to be particularly apparent as the baby boomers come to the end of their working lives in increasing numbers. Aviva has pointed out recently that this generation lived through a golden era of final salary pensions and rising property prices, which can no longer be taken for granted, but may have inhibited their propensity to make provisions for private pensions income and given people exaggerated hopes for their retirement lifestyles.

The result is likely to be a generation less well prepared for retirement, and more reliant on the basic state pension than they expected to be,  Aviva said.

AXA wealth has predicted that the retirement income of the late 1940s generation could fall short of their expectations by as much as £5,000 per year.

Spending on public sector government pension schemes will increase from £4bn in 2010  to £9bn in 2015, the Office for Budget Responsibility (OBR) estimates.

LibDem leader Nick Clegg has called some government pensions ‘unreformed gold plated’ pension schemes which are both unfair and unaffordable. This underlines the government’s promise of a review of the whole government pension arena, possibly as soon as the Budget later this month on June 22nd.

The Office for Budget Responsibility has said that the increased cost of servicing government pensions equates to an annual increase of 20% in real terms, driven by anticipated rises in the number of public servants taking their government pensions in the next 4 years, and the fact that they can be expected to draw their government pension for longer due to increased longevity.

Nick Clegg pointed to the fact that many companies in the private sector have already been forced to close their final salary pension schemes, as they were staggering under the weight of their pension liabilities. It was unfair, he said, that those whose private sector final salary or defined benefit schemes had been closed should continue to pay their taxes to provide the best pensions to their colleagues in the public sector who were about to draw final salary government pensions.

Final salary pensions, also known as defined benefits pensions, have become a millstone around the neck of many private sector companies, and now for government as well, due in part to the recent stock market slump.

Final salary pensions are widely regarded as the best pension plans, as they provide a pension income calculated on salary at retirement, and also taking into account the number of years of service. However, this pre-agreed payout can be an expensive commitment, when the underlying investments fail to perform – as during the recent stock market slump. This left many private companies, and now the government as well, having to dig deep into their own funds to make up the shortfall, when the investments behind final salary pensions fail to provide sufficient returns.

There is now a strong drive to shut down final salary pensions and defined benefit pensions, instead enrolling new employees into defined contribution pension schemes, which carry no such promise or guarantee of the level of pension income.

The number of years of National Insurance contributions needed to receive the full Basic State Pension has been reduced this year from 39 to 30, increasing the number of people entitled to the full Basic State Pension of £97.65 per week.

However, for those who may not have the 30 complete years of NI contributions to the state pension needed, the government is offering the chance to ’buy back time’ by paying up or completing additional years of NI contributions. You do not have to be working to avail of this deal – those already in retirement can also participate.

This offers workers with a broken work pattern a golden opportunity to ‘patch the holes’ in their National Insurance contributions record and maximise their income from their pension.

These late payments to the government pension are known as Class 3 Contributions, and will increase your Basic State Pension entitlements as part of your general pension planning.

People who have had broken working patterns may have missed out on some years of NI contributions in the past, and would particularly benefit from making the Class 3 Contributions needed to boost their government pensions. Others who would benefit include those who were unemployed but did not claim benefits,  those who earned less than the lower earnings limit for NI contributions, i.e. £97 per week, or those who lived abroad.

What is the cost of topping up the Basic State Pension?

Buying back years of NI contributions costs £626.60 per year, or £12.05 for each week if you are completing a year.

A special deal applies to those buying back a year from the previous two years i.e. someone in 2010 buying back government pension contributions for 2009 or 2008. These apply, not at today’s rate, but at the rate that applied in that year. Because the rates were increased in 2009, you can still buy for 2008/09 at a lower rate of £8.10 per week.

Payments to buy back lost NI years must be made within 6 years, so that in 2010 contributions can be made for years back to 2004/05. A special exemption also applies to those with 20 years of NI contributions, who will reach the state retirement age, i.e. the age at which they can draw the Basic State Pension, between April 6 2008 and April 5 2015 – this group can buy an additional 6 years of NI contributions for any years back to 1975/76.

The link of government pensions to wages and inflation will be enshrined in a newly-announced Pensions and Savings Bill . The announcement stated: “We will restore the earnings link for the basic state pension from April 2011, with a ‘triple guarantee’ that pensions are raised by the higher of earnings, prices or 2.5%.’ The benefits of the new link will begin in 2012 rather than 2011.

This will mean that, from April 2012, the new government pensions are likely to be at least £100 per week for a single , compared to the current level of £97.65, and £160  for a couple (currently £156.15).

The link between government pensions and average earnings had been in place in the 1970s, but was broken when Margaret Thatcher linked the basic state pension to retail prices, in the form of the retail price index, in 1980. As prices tend to trail inflation and earnings, the true value of pension income from government pensions has gradually dwindled since then. For that reason the re-link to inflation is seen by government pension experts as a ‘stop the rot’ measure.

The new link to wages and inflation is expected to be worth £600m per year in pension income to those drawing the basic state pension.

This week’s Queen’s Speech contained a hint that the government may gradually raise the state pensions age to 70, as part of its long-term strategy of government cuts to trim down the national deficit.

This means that an increasingly healthy and longer-living UK population may, in time, have to work an additional 5 years before drawing government pensions. During this time, they will be contributing National Insurance contributions for several years longer, and claiming them back, in state pensions, for several years less, achieving a ‘longer pay-in, shorter pay-out’ situation that will benefit the coffers of state.

However, there is a hidden threat to the government pensions structure which few, to date, have noted. With life expectancy now running at 86 for a man and 89 for a woman, there’s a storm brewing that may shake the entire government pension sector to its foundations.

Government statistics show that, while there were 3.3 people paying National Insurance for every person taking a state pension in 2001, that looks set to fall to just 2.4 workers for every state pension holder by 2060. At the same time, while around 16% of the UK population is over 65 today, this may rise to 22% by 2030.

Meanwhile, government pensions are set to become more generous. The government is committed to re-linking state pensions to inflation from 2012 (they are currently linked to retail prices) which will increase the value of government pensions, but will cost the taxpayer an extra £2bn per year.

More pensioners drawing more substantial state pensions, and less workers per pensioner to fund those state pensions. The future burden on government pensions cannot be predicted. The ‘pensions timebomb’ is ticking.

Workers now aged 20-40 would do well to consider the possible actions that may be taken in the future, if these separate developments begin to stretch government budgets to the limit.

The solution is pensions planning

Given such an unpredictable situation, experts are calling on UK employees to pay urgent attention to their own pensions planning with the help of a qualified pension planner. This applies in particular to the 52% of UK workers who currently have no company or private pension plan (source: Halifax).

Would you like to learn more about pensions planning?  Make a pensions enquiry online now, or call freephone 0800 678 5929

Pension schemes will soon be compulsory for all UK companies, following the upcoming reform of company pensions in the Government’s NEST (National Employment Savings Trust) scheme.

This will have significant cost implications for employers, particularly those with no company pension schemes at present, as they will now have to set up a pensions department to make a pensions provision for staff.

Employers have two options, either to offer their staff a NEST pension, or set up their own occupational pension scheme.

Employers who opt for the NEST scheme will pay 3% of salaries into NEST pensions, while workers provide 4% and government 1%, giving total contributions of 8%.

Major changes for 9 out of 10 employers

Ignoring the issue of company pensions is no longer an option for employers. PADA, the government authority organising NEST, has said that 9 out of 10 employers will have major changes to make in the near future, as NEST will mean a pensions function in every company.

Following the launch of the scheme in 2012, all employees with no other pensions option will be ‘auto-enrolled’ into NEST. Only employees who actively opt back out of NEST, after auto-enrolment, will not participate.

It is estimated that over 80% of employees will have a company pension, once NEST is fully operational. With the average pensions uptake in companies with a current scheme running at just 55%, the huge increase in administration costs is clear.

Act now to take control of your company pension scheme

However, employers who act now can set up an in-house company pension scheme which would exempt them from the government run pension scheme of NEST, and give them significantly more control over their company pension.

NEST – What will it deliver?

There are a number of controversies surrounding the concept of NEST.

First, there will be a 2% levy on worker contributions to NEST to repay the £600m government loan to set up the scheme. (NEST has already spent £360,000 of this to design its egg-shaped logo.)

Second, the current basic state pension of £97.65 per week can be supplemented by a top-up to £132 in the form of pension credits. Pension credits are a means-tested benefit, which can be reduced for those who have additional income or savings of their own. Many workers could stand to lose these pension credits due to their NEST pension, with the result that they could be little better off for having saved in NEST. Some have even claimed that the government is saving on pension credits, by having workers fund their own state pension top-up, in the shape of income from NEST.

Will older employees benefit from NEST?

Employees of 50 or older, with less than 20 years left before their retirement, face an additional challenge. They may have a very inadequate pension return from NEST, as their contributions will not be invested for long enough – but may still see their pension credits affected.

For further information contact Principle First on 0800 678 5929 or request pension advice online

If so, then you could be receiving state payments that currently stand at less than £5,000 a year.

Even despite government plans that could boost the basic state pension by up to £11 per week, experts are still predicting that a considerable section of the elderly population will be unable to sustain an acceptable standard of living.

The buying power of the basic state pension in the UK is a fraction of what it was, due to changes in legislation that have gradually depleted its value over the last 30 years.

These changes have reduced basic state pension benefits to current levels of just £95.25 per week for an individual – that is, just £4,953 per year.

If you have no additional savings, this would be topped up by pension credits to £130, or to £198.45 for a couple. For those with savings, however, pension credits will probably be unavailable, as these are means-tested pension benefits aimed at those with no additional income.

In the 1970s, the basic state pension was linked to earnings, and was able to hold its own against inflation. However, that changed in 1979, when the government linked the pension to prices, using the Retail Price Index.

As retail prices generally rise more slowly than earnings, the long-term effect of this has been the gradual decline to today’s low levels of basic state pension.

On a positive note, the current government plan to restore the link to earnings may, as mentioned, add up to £11 per week to the value of the basic state pension.

However, this would still leave pensioners well below the poverty line, as defined by central European legislators in Brussels.

Basic State Pension ‘below poverty line’

Brussels’ definition of the ‘poverty line’ is 60% of the average national wage.

The average national wage in the UK is currently £316 per week, which implies that any pensioner living on less £190 per week is officially living in poverty.

Even with the pension credits top-up to £130 per week, those dependent on the Basic State Pension are still officially impoverished.

**Source: Prudential

***Source: Central EU statistics agency Eurostat

Pension advice crucial as Government pension deadline nears

Nine out of 10 UK firms will need pension advice, with the roll-out of Government pension reforms and the National Employment Savings Trust (NEST)*.

Employers are entitled to opt out of the NEST national pension scheme, provided that they make other provisions to provide a workplace or occupational pension for their employees.

Over half (56%) of medium-sized firms state they will use a financial adviser for pension advice, as they consider joining the NEST government pension scheme, or setting up an alternative pension plan for their staff.

Many companies wish to maximise control over their pension contributions and pension benefits. These companies are likely to use pension advice to install company pension schemes that make them exempt from the compulsory government pensions under the NEST programme.

Requirements of the NEST Government pension

All employers who opt for the Government’s NEST scheme will be paying 3% of salaries into NEST government pensions, as part of total contributions of 8%. Separately from these employer contributions, NEST is likely to involve substantial administration costs for managing pension contributions and pension benefits at most companies.

Government pension means higher take-up

For employers with existing pension schemes, experts predict that pension take-up in the NEST would jump from the average 55% of employees to nearer 80%, raising pension administration costs substantially.

As the NEST government pension scheme is likely to be run as economically as possible, so that it can be justified to taxpayers, the resulting pension benefits are predicted to be less generous than better-invested company pension schemes.

This is also predicted to boost demand for pension advice on alternative pension schemes which will gain a company an exemption from NEST.

*Source: Personal Accounts Delivery Authority (PADA)