Delaying a state pension: Steve Webb’s five golden rules

Many people choose to delay taking their state pension in exchange for higher payments later in retirement.

Some also do so accidentally, by not making a claim in time when they turn 66. That is because if you do nothing, your state pension will automatically be deferred.

Delaying can be beneficial, particularly if you are still earning a salary and want to avoid your state pension – worth £9,600 a year at the full rate – running up your income tax bill.

But there are traps for the unwary, especially those who do not realise the option to receive all your unclaimed payments in a tidy lump sum (plus interest) was axed in April 2016.

Our agony uncle and former Pensions Minister, Steve Webb, regularly hears from younger retirees who mistakenly banked on receiving a large sum of cash when they finally put in a claim.

They are shocked to discover they will only receive larger state pension payments going forward.

And to add to the confusion, an option still remains open to them of backdating their claim for 12 months in return for a lump sum (but with no interest) for that period only.

Below, we explain the pre and post-2016 systems for deferring the state pension. And Steve Webb, now a partner at LCP, offers his five golden rules to maximise your chances of benefiting from a delay.

>> Aged 43 to 54? You may have to work longer: Dismay over rumours of state pension age hike to 68 in 2035 as warning is sounded over small savings 

Savers who reached state pension age and deferred before April 2016

Many people who deferred before 6 April 2016 have now claimed their state pension, but we still often hear from those who have not yet done so.

If you are in this situation you still have the choice under the old rules of a lump sum plus interest, or a higher state pension with an extra 10.4 per cent added for each year you deferred. 

Savers who reached state pension age and deferred after April 2016

Since 6 April 2016, the lump sum option is gone and you get a less generous extra 5.8 per cent added to your payments for each year you deferred.

But, as mentioned above, you can choose to backdate your claim for a year and get a lump sum for that period.

You lose the 5.8 per cent uplift for the backdated period, and it is only applied to the balance of the time you deferred.

One further thing to bear in mind is if you defer under the new system and die before claiming, your beneficiaries only receive three months’ backdated state pension. Under the pre-2016 system, they could get the lump sum.

Steve Webb sounded a warning about this after receiving a question to his This is Money column from a bereaved family who had missed out.

Another thing many people don’t realise is that you can halt your state pension after you start drawing it if you wish, but only once. 

Steve Webb explains how to make deferring the state pension work in your favour

1. As many readers have discovered through painful experience, if you do anything which is not straightforward when taking your state pension (other than claiming it on time) you risk facing delays and hassle which is simply not worth it if you are only going to delay for a few months.

2. Broadly speaking, deferral is designed to be a ‘fair deal’ from which the Government doesn’t gain or lose overall; but some people will tend to gain if they defer and others will tend to lose.

For example, if you are in good health and are likely to have a long retirement, you will probably benefit because your enhanced pension lasts for a long time. Conversely, if you are in poor health, then you may not get back the money you missed by deferring.

3. For those who reached pension age before 2016 there used to be a choice between taking the fruits of deferral either as an enhanced state pension or as a lump sum, but under the new system you basically get a higher pension at a rate of 5.8 per cent extra for each year of deferral.

The only exception to this is that you can backdate your claim by up to 12 months and take a lump sum for that period; no interest is added to this lump sum.

4. You can’t use deferral as a way of getting benefits on the grounds of low income. If you defer your pension and try to claim pension credit, you would be treated as if you had claimed your pension in any case.

5. One potential advantage of deferral is if you are still working, and in particular if you have a relatively high income. Your tax-free personal allowance will probably be exhausted by your wage, so your state pension will be taxed in full from the first pound.

If this takes you into higher tax brackets you could end up paying 40 per cent or more on a slice of your state pension. Deferring to a point where you don’t have earnings could avoid this risk.

>> Read Steve Webb’s most popular columns on the state pension