Those taking taxable pension payments could be overtaxed by over £3k

Written by Oliver Wade

Savers planning to make ad-hoc pension freedoms withdrawals in the new tax year could be overtaxed by £3,000 on a £10,000 payment, and have to either wait at least 12 months to get the money back or contact HMRC to ask them to return it.

The problem can affect anyone who takes a taxable pension freedoms payment from age 55, either through drawdown or via an ‘uncrystallised funds pension lump sum’ (UFPLS) withdrawal.

When a person takes a payment, HMRC requires pension providers to use an emergency ‘Month 1’ tax code, meaning that the revenue only gives one-twelfth of the usual tax allowance available on the withdrawal, resulting in savers being severely overtaxed.

AJ Bell senior analyst Tom Selby commented: “Tens of thousands of people using the pension freedoms every month risk falling into this tax trap. On average, the level of over-taxation runs into thousands of pounds and for some it could be tens of thousands of pounds.

“The problem is at its most acute at the beginning of the tax year as anyone who makes an ad-hoc withdrawal and doesn’t fill out the right form to claim the money back will have to wait until at least April 2019 to get their money back. Even then, you are relying on the efficiency of HMRC to put you back in the position you should have been in in the first place.

“This is no small issue. According to HMRC data, around 140,000 pension pots have been accessed for the first time every quarter since the pension freedoms were introduced. The vast majority of these are likely to have been taxed on a ‘Month 1’ basis.

“However, on average, only 10,500 official reclaim forms have been processed each quarter by HMRC, worth a total of £283 million."

Selby further recommended that HMRC “at the very least” consult on its approach to single person pension freedoms withdrawals and review the risks is poses to savers, and allow pension providers to apply a ‘Month 12’ tax code which would be a more “consumer-focused” solution.

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