New freedom could still prove costly
The Budget 2014 announced unprecedented flexibility and choice in how people can use their pension savings in the future. From 6 April 2015, people over 55 can choose to withdraw their pension savings as they wish, although this will be subject to their marginal rate of income tax in that year.
However, a large part of an individual’s pension fund could be payable in tax if they withdraw large sums in one tax year. Even people who have been used to paying basic-rate tax their whole life could find themselves paying 40% tax on part of their fund.
Lack of understanding
This comes as new research from the ABI and Onepoll shows there is a complete lack of understanding around the implications for taking the whole pension pot as cash, with 59% of people aged over 55 saying they do not understand the tax implications of such a move. The research also shows that when the tax implications are explained, people are far more likely (83%) to leave their money in a pension wrapper and draw an income as needed, rather than taking the entire pot as cash in one go. 17% say they are happy to pay tax on any withdrawal.
Assuming an average pre-retirement salary of £30,000 and average annuity pot of £35,600, someone would pay around 33% tax (£11,867) if they choose to withdraw their entire pension in the same tax year they were earning.
The new freedoms proposed by the Chancellor could result in some significant tax bills for those wanting access to all of their pension savings in one go. While increased flexibility is good, there is a huge potential downside and a minefield to navigate. It is important for you to fully understand the impact of the tax hit if you want access to your pension money in one fell swoop.
Taking an income
People taking an income over £100,000 could find themselves in an effective 60% tax bracket due to the reducing personal allowance over that threshold. Higher-rate taxpayers will of course pay 40% on any withdrawals from their pension pot or even the additional rate of 45% on some of the fund if their total gross earnings exceeds £150,000.
ABI, the average annuity purchase price in 2013 was £35,600, after tax-free cash has been taken. These figures have been calculated using income tax limits for 2014/15 as follows:
Personal allowance £10,000
Basic-rate limit £31,865
Higher-rate payable £41,865
Figures assume person born after 5 April 1948
Research carried out online among 1,000 respondents aged 45–65 by Onepoll, all who are paying into a pension. 299 people were aged 56–65. Fieldwork was completed 23–27 May 2014.
INFORMATION IS BASED ON OUR CURRENT UNDERSTANDING OF TAXATION LEGISLATION AND REGULATIONS. ANY LEVELS AND BASES OF, AND RELIEFS FROM, TAXATION ARE SUBJECT TO CHANGE.
A PENSION IS A LONG-TERM INVESTMENT. THE FUND VALUE MAY FLUCTUATE AND CAN GO DOWN. YOUR EVENTUAL INCOME MAY DEPEND UPON THE SIZE OF THE FUND AT RETIREMENT, FUTURE INTEREST RATES AND TAX LEGISLATION.