Fail to pay enough National Insurance before you retire and you could miss out on the full state pension. But does making up your missed payments make financial sense?
If you don't pay enough National Insurance over the course of a tax year you'll receive a letter asking if you’d like to top up your National Insurance contributions.
This usually means sending a cheque to HMRC with the promise of a better return on your state pension in years to come, but is it really worthwhile paying up, or should you just pocket the cash?
Here's what you need to know about National Insurance contributions and how to work out whether to top up if you’ve missed a payment year:
National Insurance isn’t strictly a tax and while it may certainly feel that way, its aim is to benefit those who contribute to it.
The main areas funded by National Insurance contributions are the NHS, unemployment benefits, sickness and disability allowances and the state pension.
Aside from the NHS, most of these benefits are in some way linked to your National Insurance contributions. However, only your state pension allowance and entitlement to bereavement benefits are impacted when you top up; your entitlement to other benefits won't change.
In order to claim the full basic state pension you will need to have paid sufficient National Insurance for a certain number of years.
Each year that counts towards your state pension entitlement is called a qualifying year. The number of qualifying years you need to build up to qualify for the full basic state pension depends when you'll start to claim it.
For the 2012/13 tax year, you'll need to earn £5,564 worth of income to pay enough National Insurance for it to count as a qualifying year.
If you fail to accrue the full number of qualifying years you need, you will not receive the full basic state pension but a proportion based on your National Insurance contributions.
For example, if you’ve made 20 years contributions you’ll be paid 20/30 of the basic pension.
The full state pension for 2013/2014 is £110.15 per week, meaning you’d be paid £73.44 per week if you made 20 years' contributions.
At present each ‘qualifying year’ equates to roughly £3.67 p/week of state pension.
National Insurance itself is compulsory for most people and is usually deducted automatically from your salary.
However, if you get a letter from HMRC asking you to make up your National Insurance contributions you’re not under any obligation to send off a cheque.
Instead this is more an invitation to top up your NI contributions for the previous tax year (letters sent out in 2013/14 will refer to the 2012/13 tax year) so that it counts as a qualifying year towards your pension entitlement.
If your National Insurance contributions don’t meet your annual threshold (this can vary depending on the type of NI you pay) HMRC will write to you between September and January to ask if you’d like to make up the difference.
Whether you decide to pay to top up your National Insurance contributions will entirely depend on your circumstances.
Here are some of the main points to consider:
Will you reach your target?How close you are to making 30 years of qualifying National Insurance contributions should have a big influence on whether you opt to top up or not.
If you are in your 20s or 30s for example and expect to be working for the next 20-30 years you may decide your money is better used elsewhere.
Equally, if you’ve already contributed 30 full years of National Insurance or are very close, then you may feel that there is no benefit to topping up.
However, if you are nearing retirement and missing a number of years contributions, you may feel that it's worth your while.
Are you eligible for National insurance credits?It is possible to make National Insurance contributions without being in work.
Before sending off a cheque, you should check to make sure that you’re not eligible for National Insurance credits. These can replace your National Insurance contributions if you’ve been raising children or caring for someone in need.
If you are claiming child benefit for a child under 12 years of age or are an approved foster carer then you should automatically accrue National Insurance credits, if you don’t you may need to complete an Application for Carers or Parents credits.
National Insurance credits replace annual National Insurance contributions meaning you would not need to top up for any years you receive them.
Do you need the money now?Whether you can realistically afford the payment is another important consideration when deciding whether to top up your National Insurance contributions.
The amount you might be asked to pay can vary hugely depending on your income and the type of National Insurance you pay and can easily run into the thousands of pounds.
Before you send this money off to HMRC you should consider whether paying will leave you hard up, or if the money might be better used to now, be that to pay off debts or add to your savings.
Will you get a better return in a private pension?Rather than topping up your National Insurance contributions you could opt to invest the money in a private pension instead; especially as the state pension may be so minimal that you’ll need to supplement your retirement income anyhow.
Essentially this would mean sacrificing your missing year’s National Insurance entitlement in exchange for investment in your private pension.
If you are considering this option you will need to weight up the impact on your state pension:
It's always worth consulting an Independent Financial Advisor if you need help.
Will there be a state pension in 20-30-40 years’ time?
The assumption that you will receive a state pension at all when you retire is worth questioning.
As the UK population continues to age many people believe that in the long run the state pension will simply become too big a burden to maintain and that people will eventually be asked to fund their own retirement.
While this is essentially all speculation, if you’re at the start of your working life you may decide that paying your outstanding National Insurance contributions will be wasted and better placed in a private pension plan.
The government safety netThe government currently guarantees a minimum retirement income of up to £123 per week for everyone in the UK, regardless of their National Insurance contributions.
If you have been unable to reach the necessary full qualifying years before you retire, you may be able to top up your retirement income through these pension credits.
This benefit is means tested so if you have a private pension, savings over £10,000 or another source of income your may not be entitled to assistance.
You can get an estimate of your pension credit entitlement at the Directgov website.
However, if you have several years to wait until retirement you should consider the likelihood that similar minimum income guarantees will still be in place when you stop working.
An extra state pension If you‘re in full time employment then it's likely your National Insurance contributions will also be counting towards a second state pension. This could amount to up to £157.74 extra a week (2010/11).
However, any top ups that you make don’t add to your second state pension and this additional payment (known as S2P) will be withdrawn altogether when the flat-rate state pension comes into play in 2016.
For more information on the second state pension read the Second State Pension guide from on the Directgov website.
It’s likely that a number of different factors will influence your decision as to whether to top up your National Insurance contributions.
To get an idea how much you will receive in retirement from the state pension you can request a State Pension Forecast, which will include both the basic state pension and second state pension.
If you are unsure whether to top up your contributions or to keep the cash yourself, you can seek independent financial advice from your nearest Citizens Advice Bureau.
Alternatively, if you have a personal pension provider you may also want to seek advice from them before making a decision.
I believe that this article is incorrect. It states "For the 2010/11 tax year, the amount of National Insurance you will need to pay for it to count as a qualifying year is £5,044."
I believe it should read that your earnings should be equal or greater than the lower earnings limit (i.e. your will have paid national insurance on at least 52 x the LEL).
Thanks for the quick correction to teh text which now reads:
For the 2012/13 tax year, the amount of National Insurance you will need to pay for it to count as a qualifying year is from £5,564 worth of income.
Re: NI Credits. If someone who is a houseperson opts out of receiving Family Allowance (due to spouse's income) now it is "means-tested", does that mean their NI Credits will stop accumulating?
The enphasis appears to be on pensions but there is a more important reason to top up your contributions which is never mentioned that is it can impact on a persons abilitiy to obtain contribution based ESA or Job Seekers. I am in a situation now where my partner has not topped up his NI contribution for 2010/2011 despite having 21 years NI contributions and been working from 2011 to 2012 we are not getting any additional money and are living on less than £60 a week as my income is too much!!!
Please note that after the new single tier/flat rate state pension comes in from 2017(?) you will need 35 years of NI contributions.
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