Pension schemes may want money back
HMRC’S tidying up of pension records may cost you if you ‘contracted out’ in years gone by
Imagine the horror. Throughout your career, you’ve done the right thing and saved into a pension for retirement, but a few years into your new, workless life, you get a letter from your pension scheme declaring that it has overpaid you to the tune of thousands of pounds – and it wants its money back.
That’s a fate potentially thousands of retirees could be facing thanks to a huge project to clean up old pension records currently being undertaken by pension schemes and HM Revenue & Customs (HMRC).
And, thanks to the complex and byzantine structure of the UK’S pension system, it’s not something you could ever really know about until that dreaded letter hits your doorstep.
So, why could this be happening?
Over the past two years, company pension schemes have been working with HMRC to match up their pension records with those of the tax office’s, which uses the data to ensure that the correct amount of state pension is paid to people who ‘contracted out’ of the additional state pension.
Remember, until April 2016, the state pension was made up of two parts – the basic state pension and the additional state pension, the latter of which was based upon how much you earned.
The government gave people the option to ‘contract out’ of the additional state pension. Why? Well, you and your employer would pay lower National Insurance contributions, meaning a bit of a bigger paycheck for you.
Employers, which saved money by paying lower national Insurance, had to promise to pay the extra private pension to you, which would at least match the additional state pensionyou would have got if you’ d remained contracted in. This is known as the ‘Guaranteed Minimum Pension’.
Still with me? HMRC keeps a record of all the people who have a Guaranteed Minimum Pension, and how much they should get, which it then uses to make sure people get paid the correct amount of state pension.
But the information that companies hold on this can go back as far as 40 years, as contracting out was introduced in 1978. These were pre-digital days so there was a higher error for margin, meaning that some schemes, as they conduct this process of aligning their records with HMRC’S, could find that they have over paid you using incorrect information.
This could have happened in a number of ways. For example, your company may have paid you a Guaranteed Minimum Pension when you did not have one; it may have incorrectly calculated the amount of minimum pension you were due to receive; or the annual increases to the minimum pension (applied to ensure your payments keep up with inflation) may have been paid by both your employer pension and the state.
This is a very real problem. Last week, it was reported that the civil service pension scheme had overpaid its members to the tune of £22m, following this reconciliation process.
And it’s a case of history repeating itself. The issue cropped up in 2008 – in that year, the Teachers’ Pension Scheme reported that round 20,300 pensions, based on service between 1978 and 1997, paid after state pension age were affected by issues with the Guaranteed Minimum Pension and the estimated overpayment was £26.7m – which suggests an average overpayment of just over £1,300.
In the case of the Teachers’ Pension Scheme, the overpayments were written off as a loss, and the mistakes were corrected.
But Sir Steve Webb, director of policy at insurer Royal London and former pensions minister, told Which? Money this week that other pension schemes may try to recoup the money from pensioners.
“In the worst case scenario, which should be avoided completely, pension schemes may try to take back overpayments in a lump sum,” said Mr Webb.
That’s right. Not only could your pension scheme be demanding money back from you, it could request that you pay potentially thousands of pounds back in one go.
Pension schemes are likely to take a different approach. The best case scenario is that they do nothing, continuing to pay your pension as is. Alternatively, they could continue to overpay your pension but not apply any increases (as they often do each year to ensure your payments keep up with inflation) until you get to the correct level.
The final option is that you could see your future pension payments reduced to the correct amount.
If you were contracted out of the additional state pension at any point in your career, you could be affected by this, but it’s tough to check to see if your guaranteed minimum pension is correct.
Most schemes should keep you updated about any possible changes to your pension, but my advice is to contact your scheme to find out if they are taking part in the reconciliation process. You’ll either be reassured that you aren’t facing a pay cut – or at least give yourself time to prepare if you have been overpaid.