State Second Pension Explained

SERPS - an overview

The State Earnings Related Pension (SERPS) was introduced by the Social Security Pensions Act 1975 and began on 6 April 1978. It was a state pension in addition to the Basic State Pension for employed individuals (the self-employed were not eligible) and was based on earnings between the lower and upper earnings limits (LEL and UEL) commonly known as 'middle band earnings'.

When it was first introduced the benefit under SERPS was calculated as 1.25% of middle band earnings (which were revalued each year in line with national average earnings (NAE)) for each year of your working life, up to a maximum of 20 years. It is worth noting that you could use the best 20 years. The maximum was therefore 25% (1.25% x 20) of middle band earnings. This applied to everyone with a state pension age before 6 April 1999.

The Social Security Act 1986 made changes that meant that if your state pension age was on or after 6 April 1999 you were entitled to a reduced benefit of 20% of average revalued lifetime earnings for accrual from 6 April 1988. It was no longer possible to use the best 20 years earnings. If your state pension age was in the period 6 April 1999 to 5 April 2009 you would get between 20% and 25% for post 6 April 1988 accrual only.

SERPS accrual ended on 5 April 2002 when it was replaced by the State Second Pension.

Introduced by the Child Support, Pensions and Social Security Act 2000, S2P is the successor to SERPS and was effective from 6 April 2002. As well as providing an additional state pension for the employed, S2P gives an additional state pension based on earnings of £15,300 (2015/16) to someone who was:

• employed and earning over the lower earnings limit of £5,824 in the 2015 to 2016 tax year
• looking after children under 12 and claiming Child Benefit
• caring for a sick or disabled person more than 20 hours a week and claiming Carer’s Credit
• working as a registered foster carer and claiming Carer’s Credit
• receiving certain other benefits due to illness or disability

You were not eligible if you were:

• employed and earning less than £5,824 a year
• self-employed
• unemployed
• in full-time training       

S2P is based on an earnings-related system similar to SERPS but with different accrual rates.

S2P in detail

The Government's aim was to ensure that low and non-earners received a greater benefit from S2P. To achieve this there were originally three bands of accrual.

Before 6 April 2010

The three bands of accrual were:

• Band 1 - lower earnings limit (LEL) to the low earnings threshold (LET)
• Band 2 - low earnings threshold (LET) to the secondary earnings threshold (SET)
• Band 3 - secondary earnings threshold (SET) to the upper earnings limit (UEL)

Individuals reaching state pension age before 6 April 2009 had enhanced accrual (as previously mentioned) under SERPS. These transitional arrangements were extended to S2P by increasing the accrual rate in each band. For individuals with a state pension age before 6 April 2009 an additional 1%, 0.25% and 0.5% of earnings was added to each band respectively.

So, if your state pension age was before 6 April 2009 you would not have received less under S2P than you would have done under SERPS.

From 6 April 2010 to 5 April 2012

From 6 April 2009 employers and employees with occupational pension schemes contracted-out of S2P received contracted-out rebates on earnings between the lower earnings limit and the upper accrual point. Employers and employees paid National Insurance contributions at 13.8% and 12% respectively on earnings between the upper accrual point (UAP) and upper earnings limit (UEL).

The number of bands reduced from three to two from 6 April 2010:

• Band 1 - lower earnings limit (LEL) to the low earnings threshold (LET)
• Band 2 - low earnings threshold (LET) to upper accrual point (UAP)

From 6 April 2012

From this date the accrual under band 1 became a flat rate. The level of pension was announced annually in the Social Security Pensions (Flat Rate Accrual Amount) Order and was £93.60 a year for 2015/16.

The two bands from 6 April 2012 were:

• Band 1 - flat rate
• Band 2 - earnings between the LET (£15,300) and the UAP (£40,040)

S2P - the benefit calculation

The calculation for the S2P was based on a three-step process.

• Earnings for each tax year from 2002/03 onwards were split across the bands and revalued from the tax year in question up to the tax year before the individual reaches state pension age (earnings in the tax year before state pension age are not revalued).
• The revalued earnings at state pension age in each band are then multiplied by the accrual rate applicable to that band.
• These revalued earnings are divided by the total number of years in the individual's working life since 1978 to give the S2P benefit. Working life is defined as being from age 16 to state pension age.

The examples below show how this works in practice for post 6 April 2012 accrual, assuming earnings are revalued to state pension age at approximately 2.5% a year.

Interaction with SERPS

SERPS and S2P are calculated separately, and individuals will be entitled to both a SERPS and a S2P benefit at state pension age, assuming of course that they were in both SERPS and S2P.