UK government confirms flat-rate state pension, end of contracting-out

UK - The UK state pension is set to rise to around £140 a week, the chancellor of the Exchequer announced today.

Coming as part of the 2011 Budget announcement, George Osborne also praised Lord Hutton's recent report on public sector pensions, saying the findings should not be "cherry-picked".

The long-rumored reform to the state pension system would see the introduction of a single-tier pension, with a consultation set to begin shortly with the publication of a Green Paper by the Department for Work and Pensions.

The reform would also be likely to end contracting-out for defined benefit (DB) schemes, with the budget noting that this could result in "significant simplification" of the personal tax system.

However, consultancy Towers Watson warned that employers would now almost completely exit DB schemes as a result.

If the reforms to the state pension go ahead as planned, they would only be applicable to new retirees, with Osborne estimating no additional cost to the Treasury above that posed by the current system.

The chancellor said proposals had been worked out in cooperation with pensions minister Steve Webb and added: "It would be simple, it would be based on contributions and it would be a flat-rate, so people know what to expect."

Joanne Segars, chief executive at the National Association of Pension Funds, welcomed the proposals, saying they allowed for those saving into workplace pensions to plan their retirement income more effectively.

"This is a turning point for pensions in the UK," she said. "Over half a million new pensioners a year will get a simpler and more generous state pension, and reliance on means-tested benefits will be slashed".

She said the proposals were a "massive step forward for a cornerstone of the welfare state".

However, the end of contracting out means the state pension can no longer be replaced by workplace schemes, increasing costs for employers.

John Ball, head of UK pensions at Towers Watson, predicted that most employers would not look kindly on losing this reduction in National Insurance.

"Most will simply switch existing members into the defined contribution schemes they already offer to new staff," he said. "The few who remain committed to defined benefit provision may end up taking less risk themselves."

He added that the removal of contracting out would leave employers "no option" other than to redesign schemes.

Regarding reforms to public sector arrangements, recently subject of a in-depth review by former Labour Work and Pensions secretary John Hutton, Osborne said the government accepted the findings as the "basis for consultation with public sector workers, unions and others".

However, echoing previous statements by Hutton himself at the NAPF's Investment Conference in Edinburgh earlier this month, the chancellor added of the proposals: "There should be no cherry-picking on either side."

He added that any changes implemented should also be recommended for MPs pensions, whose scheme was not covered by the report.

Osborne also announced plans for an automatic increase in the state pension age to keep it in line with increasing longevity.

"We will now seek - hopefully with all-party support - a new, more automatic mechanism for future increases in the state pension age based on regular, independent reviews of longevity."

He said this would allow the UK to "live within her means", referring to the growing cost of the state pension due to increasing longevity.

Andrew Gaches, longevity consultant at Club Vita, said the proposal was a step in the right direction.

"We have to recognise that life expectancy is increasing at close to three years per decade, and without this, the risk is the state pension will become economically unaffordable."

However, he warned the government to take into account the health of workers, saying that if they were unable to continue in employment, it would merely shift them from the state pension to a different benefit.

He further called for a two-track approach to increasing the retirement age, arguing that more affluent workers are more likely to live longer.

"Increasing state pension age at the same rate for all disadvantages those most reliant on it - the poorest who have shorter life expectancies," he said.