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The old State Pension

The State Pension for people who reached State Pension age before 6 April 2016 had two tiers:

  • The basic State Pension – based on individuals’ National Insurance records; and
  • The additional State Pension – which was partly earnings-related.

From the time the additional State Pension was introduced in 1978, it was possible to contract-out of it into a pension scheme that meets certain criteria.  Where an employee was in a contracted-out scheme, they and their employer paid a reduced rate of National Insurance (NI), designed to reflect the cost of providing the benefits foregone. Between 1978 and 1997, contracted-out schemes were required to provide a Guaranteed Minimum Pension (GMP). Since 1997, a different test has applied but contracted-out schemes must still provide a GMP for rights accrued between 1978 and 1997.

Pension schemes are required to index GMP rights accrued between 1988 and 1997, in line with prices, subject to a 3% cap. The percentage increase required by schemes is provided for in an annual statutory instrument – the Guaranteed Minimum Pension Increase Order – which is scheduled for debate together with the Social Security Benefits Uprating Order. Debates generally concentrate on the Uprating Order, with the GMP Order considered an “entirely technical matter,” providing for defined benefit pension schemes to increase GMPs built up between 1978 and 1997 by a set percentage (HC Deb 5 Feb 2018 c1257). On occasions, the debate has been an opportunity to raise related issues such as GMP equalisation (e.g. HL Deb 14 Feb 2019 c1956).

The draft Guaranteed Minimum Pensions Increase Order 2021 provides for an increase of 0.5% with effect from 6 April 2021, in line with the increase in the Consumer Prices Index over the year to 30 September 2020. This is scheduled for debate in the Commons on 9 February 2021, together with the Social Security Benefits (Uprating) Order 2021.

There is a link between the GMP and the additional State Pension in that, when a person reaches pensionable age, the total amount of GMP is subtracted from the total amount of additional state pension built up between 1978 and 1997, and any net amount is paid. This is referred to as a ‘contracted-out deduction’. It reflects the fact that reduced National Insurance (NI) was paid during the period of contracting out in return for meeting legislative requirements. This calculation is performed each year that the pension is payable. The effect of these arrangements is that, although schemes are not required to provide increases on the GMP on rights accrued between 1978 and 1988 (or in excess of 3% on rights accrued between 1988 and 1997), the additional State Pension built up during that period is subject to increases. When the contracted-out deduction is subtracted from the additional State Pension, the remaining additional State Pension includes an increase linked to prices. The effect is that, an amount broadly equivalent to the GMP, but which is in fact additional State Pension, is subject to an increase (HC Deb, 6 January 2014, c51W).

The new State Pension

Under the Pensions Act 2014, a new single-tier State Pension (nSP) was introduced for future pensioners from 6 April 2016. From April 2016, employers were no longer able to contract their pension schemes out of the State Pension. Working-age people had their existing State Pension entitlement adjusted for previous periods of contracting out and transferred to the new State Pension scheme. Because the new State Pension is single tier, the Government no longer takes account of inflation increases to GMPs when uprating their new State Pension. A 2016 NAO report explained:

10 For people retiring after 6 April 2016, the government will no longer take account of inflation increases to Guaranteed Minimum Pensions when uprating people’s new state pension. Scheme providers will continue to uprate occupational pensions – including part of Guaranteed Minimum Pensions – in accordance with scheme rules and statutory requirements. The changes mean any Guaranteed Minimum Pensions that people have accrued between 1978 and 1988 will not be uprated, and the scheme provider will only uprate Guaranteed Minimum Pensions built up between 1988 and 1997 to a maximum of 3% each year. People who have already started claiming their state pension will be unaffected (paragraphs 2.19 to 2.21). (NAO, The impact of state pension reforms on people with Guaranteed Minimum Pensions, HC 907, March 2016).

It concluded that the impact of these reforms on individuals would depend on factors “including their age, employment history, earnings and future inflation.”

Public service pensions

The arrangements in place before 6 April 2016 ensured that public servants received indexation on their GMP, while preventing double increases (HM Treasury, May 2001).

Because the mechanism in the old State Pension for providing full indexation of GMPs is not part of the new State Pension, the Government had to consider how to deliver on commitments by previous governments that public service pensions would be fully indexed. In March 2016, it announced that those reaching State Pension age (SPA) between 6 April 2016 and 6 December 2018 would receive a fully-indexed public service pension for life. (HM Treasury press release, 1 March 2016). In January 2018, it extended these arrangements for those reaching State Pension age by April 2021. It is currently consulting on further extension (HM Treasury, Public Service Pensions: GMP indexation consultation, October 2020). This is discussed in more detail in Public service pension increases (CBP 5434).

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