The pros and cons of the new state pension

A new flat-rate state pension has been unveiled to replace the existing muddled arrangements. Merryn Somerset Webb explains what the changes mean for you.

This week something amazing happened. The government introduced a policy that no one has found a good way to criticise: the new flat-rate state pension. The idea is that a flat rate of around £144 (rising with inflation) will replace all existing state pension payments, creating what pretty much every commentator refers to as "simplicity and certainty". It gets rid of confusions surrounding the current mix of the basic state pension and the earnings-related state pensions (under which none of us have a clue what we're due).

It's also set just above the pensions credit level, thereby getting rid of a raft of boring benefits means-testing. And it's fairly generous. According to numbers from Hargreaves Lansdown, a payment of £144 a week is the effective equivalent of a private-sector pension pot of around £206,000 the sum currently needed to produce an annuity for a similar amount.

That all sounds nice. But it is, of course, not as straightforward as it sounds. The key point is that £144 is not actually a flat rate. It is the maximum payment you can get. And to get it you need to have been paying national insurance (NI) contributions for 35 years (just now you need to have only 30 years under your belt to get the maximum).

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If you have under ten years of contributions, you get nothing. Between ten and 35, you get a percentage of the "flat rate" although you should be able to buy extra years. On the plus side (sort of), the state pension age is rising fast, so you're likely to have plenty of time to rack 35 years up: I'd expect to see the state pension age hit 70 back to where it was in 1909 long before I hit 65, in which case I will get the full flat rate (hooray).

The new system will also run in tandem with the old one for a long, long time: those hitting retirement age from 2017 will come under the new, while everyone else will come under the old. Assume life expectancy of 85 or so, and you will see that it will be a good 20 years before the new system stands alone. In an extra complication, anyone who has been forecast to get more than £144 in state pension at the moment (thanks to the second state pension, etc) will still get it.

A final point to note? This is effectively a progressive tax shift. The low paid, with 35 years of contributions, will get the full flat rate regardless of how much NI they have paid. And the highly paid? They give up the second state pension which can see them get up to £250 a week, if they contract out of it at the moment.

They will also have to start paying extra NI from 2017 (an effective tax rise of 1.4% on relevant earnings). And if they retire early, they may well find they don't even get the full flat rate either. That's going to be irritating for them but over the long term, it is also going to be good for Britain's deficit-reduction plan.

Merryn Somerset Webb

Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast -  but still writes for Moneyweek monthly. 

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.