Calculating the Tax Implications of Pension Withdrawals

Whether you’re planning an early retirement or considering dipping into your pension savings to help ease the burden of the rising cost of living, it’s important to remember that pensions are classed as taxable income by HMRC.

Making sure you are aware of the tax implications of accessing your pension can ensure your financial plans are not derailed by unwelcome surprises and unforeseen tax bills.

How much tax will I pay when I withdraw my pension?

The total amount of tax you will pay depends on the amount you withdraw and the income tax band which this, and any other income, places you in. 

You can withdraw the first 25% of the total value of your personal pension tax-free, once you meet the minimum age and any other eligibility requirements set by your pension provider.

If you withdraw more than 25% of the value of your pension, the portion over 25% will be considered taxable income. This is assessed as normal when determining your income tax band. The first £12,570 of your taxable income is tax-free, due to your Personal Allowance, and any earnings from employment, the State Pension or more than the first 25% of your private or employer pension over this amount will then be added together to determine your total taxable income and the applicable rate of income tax.

As an example: if you withdraw £21,000 from a £60,000 pension, the first 25% of this is tax free, and there is no tax to pay on £5,250 of the £21,000. The remaining £15,750 is assessed as part of your taxable income. If you earn £30,000 during the year in which you make this withdrawal, your taxable income is calculated as £45,750. You pay no tax on the first £12,570 of your taxable income due to the Personal Allowance. In Scotland, you pay the Starter Rate of 19% on £2,162 (the amount of your taxable income falling into the Starter Rate band of £12,570 - £14,732); 20% on £10,956 (the amount of your taxable income falling into the Scottish Basic Rate band of £14,732 - £25,688), 21% on £10,312 (the amount of your taxable income falling into the Intermediate Rate band of £25,688 - £43,662) and 41% on £2,088 (the amount of your taxable income above the higher rate tax threshold of £43,662).  The total income tax payable on your £45,750 is £4,767.50.

It's important to note that making a large withdrawal from your pension can push you into a higher income tax bracket and potentially undo the tax efficiencies you gained while saving.

How can I withdraw my pension in a tax efficient way?

Working with an independent financial adviser can make sure you have financial plans in place which make tax efficient use of your savings while providing for the lifestyle you desire.

As the only firm in the UK to receive the 2021 Gold Standard Award for Retirement Planning, our expert advisers can work with you to prepare accurate cash flow forecasts, enabling you to plan and manage your pension withdrawals in the most tax efficient way possible. We can also advise on the impact pension withdrawals will have on your ability to make further contributions in the future and on your eligibility for any means-tested benefits and tax credits, and liaise directly with providers on your behalf.

For a free no-obligation consultation on your retirement plans, contact us today.