Why working with an expert can help you to save tax when you come to draw a pension income

14 March 2022

In the last quarter of 2021, the UK government repaid £42 million in overpaid tax to pension withdrawers.

What’s more, according to Money Age, pension investors have claimed more than £835 million in tax repayments since the Pension Freedoms reforms were implemented in 2015.

If you are approaching 55, or are already drawing your pension, you could be paying more tax than you need to be and may be entitled to a rebate.

Why is HMRC returning so much overpaid pension tax?

The main reason why HMRC has had to return so much overpaid tax is due to the way you may flexibly draw your pension income.

Usually, HMRC applies an emergency tax code to the first flexible pension withdrawal of each tax year. If you draw a lump sum in the first month of the tax year, for example, HMRC will assume that you will draw the same amount every month, and tax your withdrawal according to that assumption.

While the 2015 Pension Freedoms reforms have helped many people to tailor their defined contribution (DC) pension withdrawals to suit their retirement lifestyle, it might be frustrating to learn that you could have been over-taxed in the process.

If you are looking for ways to save tax when it comes to drawing your pension, read on to find out how working with a planner can help you draw your later-life income in an efficient way.

3 reasons why you should work with a financial planner when you go to draw your pension

1. A planner can help you draw your pension in a tax-efficient way

The good news is, there has never been a more diverse array of options when it comes to accessing your pension savings. Once you reach 55 (rising to 57 in 2028), you can decide how and when to draw your pension.

The other side of that coin, though, is that you could draw your pension in a way that costs you more than necessary, simply because you aren’t aware of the opportunities available to you.

For example, if you draw your pension as a lump sum, 25% of this sum can be taken tax-free. However, if you take more than 25% as a lump sum, the additional amount is typically subject to Income Tax.

As it’s added to your income in the tax year you draw it, it could even push you into a higher tax bracket. This means, in theory, you could lose up to 45% of your pension pot to Income Tax if you chose this option.

This is just one example of how taking your pension without working with a planner could damage your savings.

By working with us to formulate a pension strategy, you could reduce the risk of paying unnecessary tax when you enter retirement.

2. Your planner can help make your pension “sustainable”

You have spent your life saving hard for retirement – so when it arrives you want to spend your time relaxing and taking life easy.

However, if you don’t make a plan for sustainably drawing your pension, you could inadvertently be using up your pension fund too quickly. As the rate of inflation continues to rise, it can be difficult to work out how much is appropriate to draw as an annual retirement income.

Indeed, according to FTAdviser, two-thirds of people retiring in the 2021/22 tax year are at risk of running out of money. While this might be a scary thought, working with a planner could help your pension last longer, reducing stress and enabling you to be realistic about your annual pension income.

Plus, statistically, people who enter retirement without consulting a professional about their pension are three times more likely to run out of money. Research from 2019, published by Money Marketing, shows that 19% of unadvised pension savers depleted their fund too quickly, compared to just 6% of advised savers.

By formulating a sustainable retirement strategy with professional guidance, you can gain better peace of mind, and feel confident that you are less likely to deplete your pension savings too quickly.

3. A planner can help you to mitigate Inheritance Tax

You may never have considered how your pension could relate to Inheritance Tax (IHT).

When you pass away, it is likely that you will want to leave your wealth to your children and grandchildren. As you may already know, depending on your current circumstances, couples can typically pass anything from £325,000 to £1 million on their death free of IHT. Anything above that is typically subject to 40% tax.

You might be thinking: what does this have to do with your pension? Simply put, your pension is usually not subject to Inheritance Tax if you pass it on to your family when you die.

So, drawing an income from your other savings first (perhaps from ISAs), and leaving your pension for as long as you possibly can, could help minimise the IHT applied to your estate when you pass away.

Working with a financial planner can give you access to crucial guidance like this, so you can save more efficiently when you retire, and give your children and grandchildren the most help you possibly can when you pass on.

Get in touch

Taxation rules are complicated, and you might feel overwhelmed by choices when it comes to drawing your pension. Working with us can help take the stress out of retirement, allowing you to relax and enjoy this part of your life you have worked so hard for.

Email info@depledgeswm.com or call 0161 8080200.

Please note

A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The value of your investments (and any income from them) can go down as well as up, which would have an impact on the level of pension benefits available.

Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances. Levels, bases of and reliefs from taxation may change in subsequent Finance Acts. 

The Financial Conduct Authority does not regulate estate planning, tax planning or will writing.