HMRC has had to repay a massive £56.9m in overpaid pension tax between April 1 and June 30 this year, as the problems with the emergency tax rate on flexible pension withdrawals continue to bite. HMRC will put you on an emergency tax rate when you first access your pension, but this treats your first payment as if this is what you are going to get in income every month, which leads to significant tax overpayment for new pensioners.
The figures have been laid out in the latest Pension Flexibility data released by HMRC in its newsletter, but it is a complication that people would prefer not to have. You can get a refund, but it would be better if it didn’t happen in the first place.
The problem is that your first payment may include your 25% tax-free lump sum, and the tax applied is as if you are going to be getting this amount every month from then onwards. While this would be nice if it could happen, it means you are going to be paying a lot more tax than you should do and will need to reclaim it.
How do you get a refund?
You can get a refund by filling in an online form and sending this back to HMRC. But there are three different forms you can use, which doesn’t help when it comes to simplifying things. The main one, a P55 is for claiming a refund on a pension that has been accessed flexibly.
The other forms are the P53Z which is to reclaim tax wrongfully paid on a serious ill-heath pension lump sum or if you have taken your whole pension through the flexibility rules, and the last one, the P50Z is for people who have stopped work and flexibly taken their whole pension pot, and also have a P45 from their employer. Complicated? Yes, but that’s why your accountant is best placed to help you if you need it.
In Q2 this year, HMRC says it processed:
- P55 — 11,449 forms
- P53Z — 3,612 forms
- P50Z — 1,018 forms
Total value repaid: £56,925,219
Source: HMRC
This suggests an average of £3,540 per person in overpaid tax, which is not an amount to be sniffed at, especially as this is in just one quarter of the year.
Is there any way to stop this happening?
In an ideal world, it wouldn’t happen at all, but sadly we don’t live in one. So, the best thing you can do to limit the impact this will have on you is to make your first pension withdrawal payment a small one, if you can. This way, the amount of tax taken under the emergency code will be much smaller, and you will have far less, if anything, to reclaim.
The reason the emergency code is applied is because the pension provider – which may be your old employer or a financial services company – won’t know exactly how much income you will be getting in your retirement month-by-month. You may have other sources of income, for example, and this is why HMRC insists that an emergency tax code is used.
The downside of this is that because this is effectively a PAYE system, it doesn’t cope well with one-off payments, like your tax-free lump sum, or the flexible nature of pensions now. So, the best thing you can do is be prepared, and make your refund claim as soon as possible. You can ask for your refund to be paid into your account ASAP, or you can wait until the end of the tax year and filing a tax return if you prefer. But really, why let the taxman have your money for longer than necessary?
We can help you
If you are about to retire and plan to take your pension straightaway, please get in touch with us and we would be happy to help you avoid any costly tax errors that might occur.
