State pension cash could run out next year: what it means for you

One think tank says the state pension fund could be empty by the end of next year. What does this mean?

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The Centre for Policy Studies is warning that the state pension system is on the brink of a funding crisis. The National Insurance Fund, set up to pay for state pensions, has been draining ever since the financial crisis hit - and while the government claims that it could last another 20 years, a report from the CPS warns that it could be empty as soon as next year.

The new calculations are based on what the CPS says is a flaw in the government's calculations. It told the Telegraph that projections for how long the fund will last are based on the assumption that wages are going to rise 2.4% a year above inflation. Wages have gone nothing of the sort in the years since the onset of the financial crisis, and in many cases have risen less than inflation.

Meanwhile, demands on the pension fund are higher than ever. As a result of both pressures, the amount in the fund has already fallen dramatically. It was down from £53 billion in 2009 to £29.1 billion last year.

This was always a risk, because National Insurance payments made today are being spent on the state pensions of today's pensioners - they aren't building up in order to pay workers' pensions. The ageing population means that more state pensions are being paid out than ever, and there are no extra National Insurance receipts to make up the shortfall.

Once the fund is drained, the government will then be left with a difficult decision - it can hike up income tax in order to make state pension payments, it can make spending cuts elsewhere to free up cash in the budget, or it can slash the pensions themselves.

What this means
The report's author, Michael Johnson, has suggested that the end of the fund will mean that the government needs to take radical steps. He suggests that it should bring an end to the National Insurance system - and that the Chancellor ought to announce this in the Autumn Statement. He suggests that the current approach of adding it to the income tax bands should make way for a single tax matching the total tax we currently pay on income - namely 32%, 42% and 47%.

But perhaps most shocking is the effect he is predicting for future generations. Johnson suggests that: "Given that exhaustion is inevitable, the next generation should be advised that their State Pension will be, at best, derisory. Indeed, it would be prudent to plan around not receiving anything at all." He warns that for people aged 45 and under there's every chance that the pension will be more modest, and retirement dates much later. For those under the age of 35 he says that there may be no state pension at all.

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Will it happen?
The government's response to early reports was that there is no risk to state pensions. A Department for Work and Pensions spokesperson told the Daily Mail that: "Older people have worked hard and paid into the system all their lives. That is why our reforms are securing the long-term future of the state pension – so it remains strong and keeps pace with increasing life expectancy."

It seems much more likely, therefore, that in the short term at least the government will find the money elsewhere. Sadly pulling it out of thin air isn't going to be an option, so there's every chance we will have to bear a great deal more austerity and cuts in order to find the cash to pay state pensions.

The question will be how long the government can keep doing this before it looks at the alternative of cutting state pensions. Johnson thinks these cuts will be with us within 20 years, but what do you think?

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