Should I defer my State Pension?

Like all such questions, the initial consideration is: “can you afford to defer?”

I will assume that you have sufficient income or assets to maintain your standard of living without the State Pension and as such the decision to withdraw your State Pension or not focuses more around potential returns from which there are two options:

1. You draw your State Pension for the guaranteed income this provides and reduce your ‘income’ from your private pensions and/or other savings by a corresponding amount

OR

2. Defer your State Pension and accept that over the short to medium term you will need to maintain a higher ‘income’ from your private pensions and/or other savings  but in return enjoy  an increase in value of your State Pension benefit

The current rules allow an individual who reaches State Pension age before 5^th April 2016 to defer this and in return receive a 1% increase for every five weeks of deferral.  This equates to a potential uplift of 10.4% per annum

If an individual reaches State Pension age after 6^th April 2016 they can also opt to defer taking their State Pension however the increase is 1% for every nine (not five) weeks of deferral.  This equates to a potential uplift of 5.8% per annum

Whilst it is possible to have the increase in State Pension accrued as a back dated payment as a lump sum, with a nominal level of interest paid on this, it is usually only slightly more beneficial than taking the State Pension immediately and not deferring this.

There are however anomalies in the way deferred State Pension lump sums are taxed, in particular that they are not added to your income and taxed at your highest rate of tax in the way that most income is.  Instead these lump sums are simply taxed at your highest rate at the time it is taken. For example, if your deferred State Pension was worth £20,000 and you were earning £40,000 in the tax year you withdrew this you would only pay 20% (your current highest rate of income tax) on the £20,000 even though your income plus the lump sum would take your total income received in the tax year into the 40% tax bracket.

The average 65 year old is expected to live for roughly two decades. The “break-even” point to have received more money deferring rather than taking a pension immediately is currently around one decade (based on taking an income, and the 10.4% uplift). Therefore for most individuals, deferring their State Pension a period then taking an income is likely to be advantageous.  Taking the lump sum is of only a slight benefit, assuming the tax rates are the same at the start and end of deferral.

Of course the longer an individual puts off taking the State Pension income increase of 10.4% the more it reduces the chances that they will “profit” because of the equally reducing life expectancy.  To use an extreme example whilst a 65 year old may be likely to live 20 years, a 75 year old is far less likely to do so.

Therefore, in simple terms, under the current 10.4% per annum deferral rules, which are due to be removed for males born after 5^thApril 1951, and females born after  5^thApril 1953 there is a benefit in deferring taking your State Pension at least for a number of years. The exact number will depend on the life expectancy of the individual deferring which can, of course, only be known retrospectively .

For those who reach their State Pension after 5^th April 2016 the new deferral rate of 5.8% offer, which has been introduced to be more “actuarially fair” becomes less appealing.  Given that most individuals would rather have as much ‘retirement’ income as possible when they are younger and more able to enjoy it (although people tend to forget that their costs in later life can significantly increase due to, for example, long term care) the post 5^th April 2016 rate is likely to encourage people to take their State Pension as soon as it becomes due.

For now, those reaching State Pension age, simply need to decide whether they want the money or not. By not taking your State Pension you will (rather disturbingly) not usually hear from the Department of Work & Pensions again until you decide to claim it. You don’t choose whether you want the lump sum or higher income option at outset, but instead make this choice when you draw your State Pension.

If you die before drawing your State Pension, when it is in deferral, it would normally form part of your Estate, so the money is not “lost”.  However if you were to die shortly after taking the pension at its higher augmented income level, the benefit of deferring would have been lost.

Clearly these choices are both a matter of personal opinion and would depend on your personal circumstances, health, and your long term objectives.  For these reasons, the above is meant merely as a summary of the rules. This is NOT personal advice or any sort of recommendation and should not be treated as such. If you require personalised advice please do not hesitate to contact us in the normal way. The final rules on post-2016 are not final law, and could change from the summary above.

The Department of Work & Pensions has a summary on deferral here and a more general guide which you can read here.