In this section:
- Employee joins or leaves a contracted-out occupational pension
Employee joins or leaves a contracted-out occupational pension
If you operate a contracted-out occupational pension scheme, you are entitled to deduct a lower rate of National Insurance contributions (NICs) from employees who join it and are under State Pension age. This guide sets out what a contracted-out scheme is, and explains what you need to do if an employee joins or leaves one of these schemes.
Reduced rate NICs for contracted-out pension schemes
The NICs your employees pay build up an entitlement to receive a State Pension. There are two parts to the State Pension - the basic State Pension and the State Second Pension (which was previously known as the State Earnings-Related Pension, or SERPS).
Employees are permitted to opt out (or contract out) of the State Second Pension if they join an approved occupational pension scheme instead. These schemes are known as contracted-out pension schemes.
When an employee joins one of these schemes they are entitled to pay a lower rate of NICs, known as a contracted-out rate. The specific rate that applies depends on which of the three types of contracted-out scheme the employee joins:
- Contracted-out Salary Related Scheme (COSR)
- Contracted-out Money Purchase Scheme (COMP)
- COMP Stakeholder Pension Scheme (COMPSHP)
Joining a contracted-out scheme only affects NICs - it makes no difference to your deductions of PAYE (Pay As You Earn) tax from your employees.
Download a flowchart showing which NICs rates apply to which schemes (PDF 42K)
Important reference numbers for contracted-out pension schemes
When you set up an occupational contracted-out scheme, we'll send you an Employer Contracting-out Number (ECON), which you will need to enter on form P35 when completing your employer annual return.
We also assign a Scheme Contracted-out Number (SCON) to each occupational contracted-out pension scheme. The SCON must be entered on the end-of-tax-year form P14 of each employee who is a member of a Contracted-out Money Purchase scheme or a COMP Stakeholder Pension Scheme.
More about filing forms P14 and P35 at the end of the tax year
What to do if an employee joins an occupational contracted-out scheme
If an employee joins an occupational contracted-out scheme, you must start working out their NICs using the correct NICs category letter. This applies to all payments you make to the employee after they have joined the scheme - even if a payment relates to work carried out before they joined.
Download a flowchart showing which NICs rates apply to which schemes (PDF 42K)
What to do if an employee moves between occupational contracted-out schemes
If you operate more than one occupational contracted-out pension scheme and an employee transfers between them, you will need to do the following:
- make sure you use the correct NICs category letter - this may change if the employee moves between different types of scheme
- if the employee transfers from a COSR scheme to a COMP or COMPSHP scheme, you must enter the SCON on the employee's form P14
- if the employee transfers from one COMP or COMPSHP scheme to another COMP or COMPSHP scheme, you must use a separate line for each on form P14 and remember to quote the SCON in each case
What to do if an employee leaves your occupational contracted-out scheme
If an employee leaves your occupational contracted-out pensions scheme but continues to be employed by you, you must start deducting NICs at the appropriate not-contracted-out rate. This should be used for all payments to the employee after the date they stop being contracted out - even if a payment relates to work carried out before that date.
What to do if an employee ceases to be contracted out and leaves your business
If a contracted-out employee leaves your business you must notify us and treat any subsequent payments to the employee (such as outstanding salary or a bonus) as follows:
- if the payment is made within six weeks of the employee leaving your business, deduct NICs at the contracted-out rate
- if the payment is made more than six weeks after they leave, deduct NICs using the not contracted-out rate
The rules that apply when a contracted-out employee leaves your business are detailed. For further information, call our Contracted-Out Pensions Helpline (see the further information section, below) or consult our publications CA14 and CA14A (you'll find links to both at the end of this guide).
Special rules for employees over State Pension age
When an employee reaches the State Pension age they no longer have to pay employee's NICs, but you must pay employer's NICs using NICs category letter C at the not-contracted out rate. This applies even if the employee was contracted out before reaching State Pension age.
Note that reaching the State Pension age only affects NICs - there's no change to PAYE tax deductions.
Download publication CA41 containing NICs tables for category letter C (PDF 222K)
More about PAYE when an employee reaches State Pension age
Further information
If you have any further queries about operating an occupational contracted-out pension scheme you can call our Contracted-out Pensions Helpline on Tel 08459 150 150. This is open between 8.00 am and 5.00 pm, Monday to Friday.
You can also find more information about PAYE and contracted-out pension schemes on pages 56 to 58 of our publication 'Employer Further Guide to PAYE and NICs' (CWG2) - there's a link to it below.
Download our publication 'Employer Further Guide to PAYE and NICs' (CWG2) (PDF 462K)
Download a guide to contracted-out pensions from the Pension Service website
Download our guide covering COSR employees who leave your business (CA14) (PDF 872K)
Download our guide covering COMP employees who leave your business (CA14A) (PDF 673K)
