How to help clients understand contracting out

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How to make sense of GMP clawback

Ms Paddon adds: "The paperwork should state it is a contacted out scheme or this can be checked with HMRC/NICO."

Phil McGovern, managing director of MPA Financial Management, comments: "All schemes will say whether they are contracted-out or not. All statutory schemes, for instance, are contracted out."

As for his own view on forgoing the state earnings-related pension in exchange for a GMP - "Most major schemes did it and sold it to the membership as a gold standard, when it's a bit of a con really".

"If in doubt", Mr Lawson adds, "the member can check with the trustees of their former employer's pension scheme (or schemes). They can also request information from the Department for Work and Pensions regarding the state pension records held by the government, which should also indicate periods during which they were contracted out".

From simple ideas to complex execution

But, as ever, nothing is simple and straightforward. Not only may an individual have moved between different contracted-out schemes over that timeline, but also, as Ms Ingram points out, as contracting out is done on a tax year basis, individuals may have both contracted-in and contracted-out entitlements when they reach state pension age, so any paperwork will need to be gone through with a fine-toothed comb.

Moreover, there are two ways of being contracted out - either via an occupational pension scheme, or by accepting rebates of NI contributions into a personal pension (see box out) - as between 1988 and 2012, individuals could also choose to contract out.

They would pay full NI contributions in full but part of the NI would be paid rebated into a personal pension in the individual's own names. 

While this form of contracting out is not affected by the current HMRC reconciliation process (although who knows what plans the tax man has for personal pensions in the future?), those with such protected rights benefits may find this affects the level of their state pension if they have not already reached state retirement age (currently 65).

Given the complexity and potential mountain of paperwork involved, this can present a minefield for individuals trying to work out whether they were in final salary (DB) schemes that were affected, and whether their contracted-out benefits are correct, or whether HMRC's reconciliation process of its records with the pension scheme's records will throw up any anomalies.