Pension savers dipping into their pot have reclaimed £892m in overpaid tax over the past seven years, latest government figures show.
The overpayments are due to tax code errors on pension withdrawals since the introduction of pension freedoms in April 2015, according to analysis of HMRC statistics by investment platform AJ Bell. More than £33m was repaid to around 10,000 people who paid too much tax on pension withdrawals in April, May and June, with the average reclaim amounting to £3,363.
The pension freedoms allow savers to access their defined contribution pensions, sometimes known as a money purchase pension, from the age of 55. Read more in our article Your pension options at retirement. If you’ve dipped into your pension since 2015, you may have overpaid tax if you’ve taken a taxable lump sum from your pension for the first time, or withdrawn the entire pension at once in a single tax year.
However, you won’t have overpaid tax if you’ve withdrawn 25% or less of your pension, which is the tax-free amount you can take from the age of 55. You can find out more about the rules in our article How much tax will I pay when I withdraw my pension?
If your pension provider didn’t have the correct tax code for your personal circumstances at the time of the withdrawal, it may have taken the wrong amount. Providers tax savers accessing taxable income from their pension for the first time on a ‘month 1’ basis. This assumes that you will continue to make withdrawals, and could have seen you pay thousands of pounds more in tax than you should have done.
Laura Suter, head of personal finance at AJ Bell, said: “It’s ridiculous that so many pensioners are unnecessarily overtaxed by the government because the system hasn’t been fixed. A bit like going on ‘emergency tax’ if you first start a job and haven’t provided your details in time, pensioners are being over-taxed but through no fault of their own. The fact that pensioners have been overtaxed by £892m since pension freedoms were introduced in 2015 shows the scale of the issue. What’s more, many won’t understand the fiendishly complicated tax system and how to claim the money back – or indeed that they are entitled to a rebate.”
“As the cost of living crunch bites, and particularly hits pensioners, we could see more people taking lump sums from their pension to top-up their income, meaning more could be caught in this tax trap. What’s more, as people struggle to pay bills the last thing they need is to be owed money by the taxman.”
These pension freedoms don’t apply to defined benefit or final salary pensions, which provide you with a guaranteed retirement income that amounts to a proportion of your final salary.