British retirees are being overtaxed as HMRC applies emergency tax codes to pension withdrawals.
Over-55s have had to claim back some £480 million in overpaid taxes from the government since the launch of pension freedoms in 2015, figures from HMRC reveal.
As many as 17,000 people had to claim £46 million in tax back between April and June, up from 14,000 people claiming £29 million in the same period in 2018.
Since pension freedoms were introduced in 2015, people have been able to withdraw lump sums from their pension pots. However, these withdrawals are often stung by emergency tax rates applied by HMRC, which have to be claimed back at a later date.
The total amount that over-55s will have to claim back is expected to reach half a billion pounds in the next three months.
This figure has been described as a “drop in the ocean” as it reflects only the money that people have actively claimed back from HMRC, while millions more sits until it is returned in rebates at the end of the tax year.
Steve Webb, director of policy at Royal London and former pensions minister, comments: “It remains a scandal that people who are legitimately accessing their own money, using freedoms given to them by the government, are routinely being overtaxed for the convenience of HMRC.
“Thousands of people every month are having to fill in complex paperwork to recover tax that they should never have had to pay. The latest figures show that this problem is now reaching epidemic proportions, with nearly half a billion pounds having to [be] prised out of HMRC’s hands and returned to its rightful owner. The new chancellor needs to address this issue as a matter of urgency.”
People who have been overtaxed can claim the money back by filling out one of three different forms for HMRC. The vast majority, however, do not do so and have to wait until the end of the tax year to receive a rebate.
Tom Selby, senior analyst at AJ Bell, comments: “These latest figures continue to expose the damage caused by HMRC’s insistence on overtaxing savers when they first take taxable income from their pension using the retirement freedoms.
“The near £500 million reclaimed through official forms is just a small part of the picture, however, with the vast majority who don’t jump through these government-imposed hoops potentially having to wait until the end of the tax year to get their money back.
“It is incredible that more than four years on from the introduction of the pension freedoms we still have not had any public consultation on HMRC’s approach to taxing withdrawals.”
Avoid getting stung
Over-55s that withdraw a lump sum from their pensions end up getting stung with an emergency tax rate because HMRC assumes that they will be withdrawing that amount regularly, when in fact it is often just a one-off payment.
While savers owed tax are repaid, as Moira O’Neill, head of personal finance at interactive investor (Moneywise's parent company), notes: “Repayments can take a long time and the process can be a huge inconvenience.”
Ms O’Neill offers the following advice for savers: “It’s worth planning well ahead when getting ready to start taking pension income - think about requesting only a nominal payment in order to trigger a new tax code.”
Your tax code will then be set at the level of the initial payment. Ms O'Neill adds: “You can then withdraw the sum you originally intended to.”
This article was first written and published by our sister magazine Moneywise.