Pensions flexible access double whammy – watch out for surprise tax AND tax credits bills
The Low Incomes Tax Reform Group (LITRG) is warning that with changes to pension rules, which enable you to withdraw as much as you like, when you like from your pension pot from the age of 55, nobody should make any decisions without carefully considering not only the tax but also (if you claim tax credits) the tax credit consequences1.
LITRG Technical Director, Robin Williamson, said:
“Financial decisions affecting our retirement are some of the most important we will ever make. It is crucial that those considering taking advantage of the new rules allowing liberal access to pension pots know the facts2.
“Before taking money out of your pot, you will have to consider many things including personal circumstances, future plans, your overall finances and future investment returns. Much has been said in the Press about the potential tax consequences of pension withdrawals and we are already seeing some reports of worried individuals jamming HMRC telephone lines trying to understand their situation3. But it is equally important, where necessary, to take into account the possible consequences on the individual’s tax credits award and also state benefits4.
“If you withdraw money from your pension saving, most of the amount withdrawn becomes taxable income. It is also income for tax credits purposes. Increasing your income by taking money from your pension savings could lead to you being overpaid tax credits which you will have to pay back. It could also mean you end up with less tax credits in the following year5.
“Planning ahead could therefore save you a great deal in potentially unnecessary tax and tax credits charges. For example, if you can afford to wait to take pension monies until the tax year after you retire, you might be liable to tax at a lower rate and suffer no adverse tax credits consequences if you are no longer eligible to claim them.
“Tax credit claimants are not obliged to tell the Tax Credit Office about changes to income until a claim is renewed at the end of the tax year. However, our advice is to let them know as soon as possible about money taken from a pension pot to reduce the amount of any overpayment. And if you need to take the money out of your pension, at least budget for a sizeable reduction in your tax credits award and the possibility of having to pay back credit already received.”
Notes to editors
1. The LITRG have published information highlighting key changes to pensions, which came into effect on April 6th, which can be accessed here.
2. A recent survey, commissioned by Sanlam Wealth Management, showed that 85% of over 55’s were unaware that they will face any tax bill when liberating their pensions. Further details of the survey can be found here.
3. ‘HMRC tax helpline blocked by deluge of calls’, The Telegraph, 8th April 2015; article here.
4. Prospective pensioners should also check carefully the impact of their decisions on means-tested state benefits, such as Universal Credit and Pension Credit. One-off or irregular sums taken from pensions could be treated as ‘capital’ for the purposes of means-tested state benefits. Regular amounts taken from pensions are likely to be treated as income. Either capital or income treatment could have an immediate effect on your entitlement to state benefits, depending on your overall circumstances. ‘Local’ benefits like Council Tax Support could also be affected.
5. This is because tax credits are calculated based on income for the previous tax year, but are adjusted if the claimant’s income falls or increases beyond certain disregarded amounts. So a large, one-off increase in income in one tax year could mean that not only does a current year overpayment arise but also the following year’s claim suffers.
Tax credits are worked out using yearly rates and yearly income figures. Your income may well change from one year to the next but only changes over or under certain limits will alter the amount of tax credits you were awarded at the beginning of each tax year. The limits for changes in income from one year to the next are known as the income disregards. More information can be found here.
6. The Low Incomes Tax Reform Group (LITRG)
LITRG is an initiative of the Chartered Institute of Taxation to give a voice to the unrepresented. Since 1998 LITRG has been working to improve the policy and processes of the tax, tax credits and associated welfare systems for the benefit of those on low incomes.
7. The Chartered Institute of Taxation (CIOT)
The CIOT is the leading professional body in the United Kingdom concerned solely with taxation. The CIOT is an educational charity, promoting education and study of the administration and practice of taxation. One of our key aims is to work for a better, more efficient, tax system for all affected by it – taxpayers, their advisers and the authorities. The CIOT’s work covers all aspects of taxation, including direct and indirect taxes and duties. Through our Low Incomes Tax Reform Group (LITRG), the CIOT has a particular focus on improving the tax system, including tax credits and benefits, for the unrepresented taxpayer.
The CIOT draws on our members’ experience in private practice, commerce and industry, government and academia to improve tax administration and propose and explain how tax policy objectives can most effectively be achieved. We also link to, and draw on, similar leading professional tax bodies in other countries. The CIOT’s comments and recommendations on tax issues are made in line with our charitable objectives: we are politically neutral in our work.
The CIOT’s 17,000 members have the practising title of ‘Chartered Tax Adviser’ and the designatory letters ‘CTA’, to represent the leading tax qualification.