With life expectancy continuing to rise in the UK, it’s never been more important to understand how to manage and maximise your State Pension.
Below, we look at what it means to defer your State Pension, how to go about it and some important factors to consider before you go ahead.
What is a deferred State Pension?
When you reach State Pension age, you don’t start receiving the State Pension automatically. You’ll get a letter from the Government two months before, giving you the option either to start claiming it or to defer it.
Deferring your State Pension simply means you’re delaying or postponing the start date of your pension payments. By deferring your payments you’ll receive higher weekly sums in the future, but it isn’t without risk.
How does deferring work?
The maximum weekly State Pension you can receive is currently £168.60. This amount is set to rise annually based on what’s known as “the triple lock” – the higher figure of inflation, earnings growth and 2.5%.
You don’t need to do anything to defer taking your State Pension, it will automatically be deferred if you don’t claim it. You can also defer your pension for as long as you like. The longer you defer, the higher your weekly payments to live on as you get older, but the higher the risk that you might not live long enough to see the benefits.
If you’re approaching State Pension age, for every nine weeks that you defer claiming your pension, your weekly payments will increase by 1% to make up for the money that you’ve missed out on. This means that if you defer payments for a year then you’ll see an increase of nearly 5.8% in your weekly payments for the rest of your life.
Should you defer?
Deferral is a very personal decision. Three important things that you need to consider are life expectancy, tax implications and the impact on any other benefits you are receiving.
If you decide to defer your pension for one year, and you’re eligible for the maximum weekly pension payments, then at the 2019/20 pension rates you would forego £8,767.20.
Ignoring inflation, it would take you just over 17 years to earn back this amount of money through increased weekly payments.
According to the Office of National Statistics (ONS), current average life expectancy in the UK from the age of 65 is around 19 years for a man and 21 years for a woman. This means that on average, most people will slightly benefit from deferring their State Pension by at least one year. However, if you have a history of family illness, you are a long-term smoker or you suffer from ill health, then you may consider it a risk not worth taking.
Any money you earn on top of your State Pension that pushes you above the income tax free annual allowance will be taxed according to which tax band it falls into.
For example, if you decide to continue working past state retirement age and your earnings mean that you pay income tax at 20%, then any extra money you make from your pension will also be taxed at this rate.
You should think about this when considering deferral as it could make sense to defer your State Pension until you have stopped earning to reduce the amount of tax you pay. The right decision for you will depend on your individual circumstances and how much you are earning.
The tax considerations can have quite a profound impact on the merits of deferring so if you’re unsure, we would recommend you speak to a qualified financial adviser who will be able to help you make the right decision for your circumstances.
Overlap with other Government benefits
The overlap with other state benefits can be quite complex. For example, typically you can’t build up extra State Pension for the future by deferring it when you’re still receiving other state benefits such as Carer’s Allowance, Pension Credit or Income Support. Your ability to delay taking your pension and boost your future pension payments can also be impacted if your partner receives certain benefits.
Similarly, the extra amount you receive in future years from deferring your state pension will count as income, and therefore will count against any state benefits you receive in future. For example, if you receive Pension Credit, Housing Benefit or Council Tax support then these may be reduced due to the extra income you are getting.
It’s a complex area, and everyone’s circumstances are different, but if you are, or have a partner who is receiving other Government benefits, you’ll need to think very carefully whether deferring your State Pension will benefit you. You can find more information on how deferring your State Pension impacts other Government benefits on the Government’s website here.
I’ve already started taking my pension, can I stop it?
If you started taking your State Pension but now realise you would like to defer it then you can. You’ll get the same terms as if you’d not started claiming it.
This may be particularly useful if you have continued working after retirement and don’t need to draw on your State Pension yet, or you want to wait until you have fully stopped working before you claim it.
The terms for deferring your State Pension changed on 6 April 2016, so anyone who reached retirement age before that date stands to gain a lot more from deferral than under the current scheme.
This is largely because the ongoing increase to your pension from deferring taking it for a year, was 10.4% under the old scheme, compared to 5.8% under the current scheme. This difference is significant and means that a one year deferral for your State Pension will take you only 10 years to pay back, rather than just over 17 years under the new scheme (ignoring the complexities of inflation).
The good news is that if you reached state pension age before 6 April 2016 and are currently taking your State Pension, you can still pause it and benefit from the same terms as if you had deferred it originally. This means that your weekly payments will increase by 1% for every 5 weeks that you choose to defer, leading to a 10.4% growth if you pause it for one year.
Given the reduced payback time under the old scheme, if you are in good health and still working, then pausing your State Pension may be something worth considering, but make sure you understand the full implications of doing so first.
Under the old scheme, you can also choose to defer taking your State Pension for a year or more, and then take a lump sum payment to catch up on your missed payments when you want it re-started, which might appeal if you’re still working and paying income tax. More information for those who reached State Pension age before 6 April 2016 can be found on the Government website here.
Many of us won’t have the luxury of being able to decide whether we defer the State Pension or not as we need the income now. If you are fortunate enough to have a choice, it can be a complex decision to make.
Ultimately you need to consider your own personal circumstances, think about your health and lifestyle and make an informed decision on whether you can afford to do without the State Pension payments in the short term and whether you really will benefit from deferral in the long run.
For more information on deferring your State Pension, you can visit the government website here.
If you’re still unsure of what to do, it may be helpful to speak to a qualified financial adviser who can help you understand the right decision for your personal circumstances. To find a local, highly rated adviser you can use a site such as VouchedFor or Unbiased.co.uk or read our guide on ‘How to find the right Financial Advisor for you’.