The 6 April 2015 pension freedoms represented a major shift in how you can access your pensions. It means anyone aged 55 and over can take the whole amount as a lump sum, paying no tax on the first 25%. The rest is taxed as if it were a salary at their income tax rate. However, pension withdrawal using the flexi-access pension rule comes with stipulations and costs that many people are unaware of. The rules are complicated, so you should try to understand them before you act.
What is pension flexibility?
Flexible pensions were introduced from 6 April 2015. The rules apply to ‘defined contribution’ or ‘money purchase’ pensions. Those where you have saved up a ‘pot’ of cash or investments, and have to choose what you do with it.
What’s the catch with pension freedoms?
Since the introduction of pensions freedoms, more people than ever are withdrawing their money early using the flexi-access rule. In doing so, people face the following consequences:
- They must notify all other pension companies with which they have savings; and
- If in future they, together with their employer (or anyone else), contribute more than £4,000 to a pension fund for their benefit, they will be liable to an extra tax known as the annual allowance charge.
Why is notifying other pension companies so important?
In 2006, HMRC introduced rules which means they can fine you if you withdraw cash. This counts as flexi-access from one of your pension funds, but do not notify other pension companies (with which you have savings) within 91 days. The fine will set you back an initial £300 and then £60 per day thereafter, until you supply all of the required information.
What’s the annual allowance charge?
The annual allowance is currently capped at £4,000 if you have already started accessing your pension. The annual allowance applies across all of the schemes you belong to. It’s not a ‘per scheme’ limit and includes all of the contributions that you, or your employers, pay or anyone else who pays on your behalf. If you exceed the annual allowance in a year, you won’t receive tax relief on any contributions you paid that exceed the limit, and you will obtain an annual allowance charge. HMRC require you to declare any contributions that exceed the £4,000 limit on your self-assessment tax return or in writing, by no later than 5 October following the end of the tax year.
What tax will I pay?
Any money you take from your pension scheme using flexible drawdown will be added to your income for the year and taxed in the normal way. Large withdrawals could push you into a higher tax band so bear this in mind when you withdraw from your fund.
Flexible Drawdown Pension Charges
A recent article published by The Times suggests that HMRC cannot provide information about the number of individuals it’s penalised because they were unaware of any consequences accessing their pensions may have. Steve Webb, former Minister of State for Pensions, asked HMRC how many people had been fined for so-called pension notification breaches. Its response was that obtaining the data would “exceed the Freedom of Information costs limit”. This reply suggests the answer is unknown.
Plan ahead: for example, you might pay less tax on money from pensions if you take it in stages, spread it out over a number of tax years, or wait until after you have stopped working. If you need to talk to us please call us on 01384 261300 or visit our website for more information. Thomas Nock Martin can help you understand pension freedoms so you get the most out of your money.
We never want our clients to pay more tax than they need to. Thomas Nock Martin specialises in small business tax so get in touch to see how we can help you. You may also be interested in our previous blog on VAT partial exemption.