Baroness Ros Altmann, Minister for Pensions, recently chaired a meeting at the Department for Work and Pensions (DWP), to inform the pensions industry about changes to the way DWP will communicate with members approaching State Pension Age and those who enquire about their State Pension entitlement.
Contracting-out and the single tier State Pension
The pensions industry has been asking for some time how the Government (via the DWP) are going to communicate to members the deductions that will be taken from their single-tier State Pension, in relation to contracted-out employment.
We now know…it’s not that straightforward! When is it ever where pensions are concerned?
For those of us dealing with defined benefit (DB) pension schemes; contracting-out = GMP! See our brieifing note called What is a GMP? for more information.
COPE – Contracted-Out Pension Equivalent
Where people were ever contracted out then the DWP will now include a COPE on all State Pension Statements, effective from 16 November 2015.
"Where people were ever contracted out, the DWP will now include a COPE on all State Pension Statements with effect from 16 November 2015."
So, what is a COPE?
Firstly, it is not, as one might have hoped, intended to equal a member’s GMP (or money purchase equivalent). Instead, it will be a representation of the State Pension they would have received had they not been contracted-out.
We understand DWP will carry out two State Pension calculations for each individual, one with full NICs and one with contracted-out NICs and will deduct the difference (i.e. the COPE) from the single-tier State Pension.
How will COPEs be communicated to members?
Easy – on a State Pension Statement. This statement is intended to be short, with more detail being provided in the explanatory notes that will accompany it.
HMRC’s aim is to make it clear to individuals, who have been in contracted-out employment, that they will not get a full State Pension because they have not paid for one. However, individuals who have paid reduced rate NICs for a period of time will receive a benefit, from their pension scheme, at least equal to the COPE.
For more details, please see the Stakeholder Message from HMRC that was issued on 16 November 2015.
"We can now work with trustees and other advisers to ensure members understand what they will be receiving from their pension schemes and why."
So, how does this affect pension schemes?
Many DB pension schemes are in the process of reconciling their contracted-out liabilities – see previous articles and briefing notes on this topic for more information.
These projects started because, as of April 2016, contracting-out is ending and from the end of 2018 HMRC will also stop ‘tracking’ GMPs. As I pointed out above, State Pensions for contracted-out pension scheme members will be reduced by an amount very similar to the GMP they will receive from their pension scheme (their COPE). This has the potential to cause confusion amongst members.
If a member requests a State Pension Statement from DWP before their scheme has completed a reconciliation exercise, DWP’s records may change before their State Pension comes into payment and members may get a pension amount they weren’t expecting - it could be higher or lower.
Will members understand the COPE?
If not, will they be expecting the administrator of their pension scheme to explain it to them? I suspect the industry will come up with some standard wording to include on retirement statements and other communications, asking members to direct queries to DWP and providing links to appropriate sections of their website. This will, however, take time and the first people approaching State Pension Age from now will suffer from the industry’s teething trouble in this area.
We now know what members will be told about their single-tier State Pension - in relation to contracting-out - and that’s half the battle. Going forward, we can now work with trustees and other advisers to ensure members understand what they will be receiving from their pension schemes and why.