NIM01021 - Class 1 structural overview: Occupational and Personal Pension Schemes

The State Retirement Pension

For people who reached State Pension age (SPa) before 6 April 2016, the State Pension (SP) is made up of two parts:

• a basic pension which is payable to anyone who has paid enough NICs and has reached the state pension age
• from 6 April 1978, an additional pension (AP) based on earnings between the Lower Earnings Level (LEL) and up to and including the Upper Earnings Level (UEL), or from 6 April 2009 up to the Upper Accrual Point (UAP)

Individuals could contract-out of the additional State Pension if they were a member of their employer’s contracted-out occupational pension scheme or as a member of an Appropriate Personal Pension (APP) scheme.

Graduated retirement benefit (GRB) based on earnings, is payable to anyone who paid into the National Insurance Graduated (NIG) Scheme which ran from 6 April 1961 to 5 April 1975.

Types of contracted-out pension schemes

Defined Benefit Pension Schemes

Under the Social Security Pension Act 1975, occupational pension schemes could contract-out of SERPS if they promised the person a pension related to the level of their earnings. These are known as Contracted-out Salary Related (COSR) Schemes or Defined Benefit Schemes. Both the employer and employee received a contracted-out rebate to the amount of NICs they paid.

Defined Contribution Pension Schemes

The Social Security Act 1986 introduced new choices and reforms of pension provisions, resulting in more flexibility for both employer and employee:

Contracted-out Money Purchase (COMP) Schemes

From 6 April 1988 occupational pension schemes that promised a minimum level of contributions and minimum payments could also contact-out of SERPS. These were known as Contracted-out Money Purchase (COMP) Schemes. A COMP Scheme provides a pension based on the value of the fund built up in the scheme, that is, the funds paid in and the investment return.

Like COSR schemes, employers and employees received a contracted-out rebate to the amount of NICs they paid and, from 6 April 1997 an additional age-related rebate was paid directly to the pension scheme by HMRC.

Appropriate Personal Pension (APP) Schemes

From 1 July 1987 employees could start an Appropriate Personal Pension (APP) instead of staying in SERPS. Employees could choose an APP rather than join their employer’s pension scheme. An APP scheme, like a COMP scheme, provided a pension based on the value of the fund built up in the scheme.

Members of APP schemes paid NICs at the standard rate and HMRC paid a contracted-out rebate, including from 6 April 1997, an age-related rebate directly to the personal pension provider.

Stakeholder pensions

Stakeholder pensions were introduced as a new type of low-cost pension, available to people from 6 April 2001 to help boost their income later in life.

Stakeholder pension schemes could operate as COMP or as an APP scheme.

Changes from 6 April 2012

The Pensions Acts 2007 and Pensions Act 2008, as well as the Pensions Act (Northern Ireland) 2008 introduced measures to simplify the administration of occupational and personal pension schemes by abolishing contracting out on a defined contribution basis.

Contracting out of the additional State Pension on a Defined Contribution basis was abolished from 6 April 2012. This meant that from 6 April 2012, individuals who were members of COMP, APP and Stakeholder pension schemes were automatically brought back into the State additional pension scheme, although membership of the schemes could continue on a non contracted-out basis.

Changes from 6 April 2016

The Pensions Act 2014, as well as the Pensions Act (Northern Ireland) 2015 introduced the new State Pension (nSP) for people reaching SPa on or after 6 April 2016. The nSP replaces the basic and additional pension and is paid as a single weekly rate. As additional State Pension is no longer payable this also brought contracting-out to an end, although membership of defined benefit schemes could continue on a non contracted-out basis. Individuals and employees were no longer entitled to a contracted-out NICs rebate and were required to pay standard rate Class 1 NICs from 6 April 2016.