Two years after the introduction of the pension freedoms, tens of thousands of over 55s have failed to reclaim overpaid tax on their withdrawals, according to online pension provider AJ Bell.
Pension providers are not likely to know their customers’ tax codes and as such HMRC requires them to deduct tax on the grounds that only part of the full year’s tax allowances is given. This is known as a ‘month 1’ basis and it assumes that the withdrawal will be made monthly, even though in many cases it is just a one-off. The result is that the tax charged is calculated on a higher level of withdrawal than the investor actually makes.
This means that an investor who took out £10,000, for example, and expected to pay no tax because it was under the personal allowance, would actually be hit with a bill of £3,099. This is because the ‘month 1’ taxing would assume that it is the first of 12 £10,000 withdrawals and base the tax charged on an overall withdrawal of £120,000 across the year.
The table below shows how much tax would be deducted for different size withdrawals on a ‘month 1’ basis, compared with what a basic rate taxpayer might expect to pay.
Plus, despite everybody being able to reclaim any tax they have overpaid, data from HMRC and the Financial Conduct Authority (FCA) suggests that many more people have made pension withdrawals than have made a claim for overpaid tax.
According to the FCA, an average of 139,000 pensions are being accessed for the first time every quarter and the majority of these are likely to have been subject to emergency tax. In comparison, figures from HMRC show that, on average, there are only 10,998 requests to reclaim over paid tax every quarter.
‘Check if you’ve paid too much tax and make a claim’
Commenting on the findings Tom Selby, senior analyst at AJ Bell says: “HMRC’s insistence that an emergency tax code must be applied to pension freedom withdrawals means tens of thousands of people will have paid too much tax on their withdrawals yet very few of them have reclaimed this tax. This might be because they don’t know they have paid too much tax or the process to reclaim it just seemed too complicated.
“Whatever the reason, there is likely to be millions of pounds sat with HMRC that could be legitimately reclaimed. It is up to individuals to check whether they have paid too much tax and to make a claim, they are unlikely to get any help from the government.”
|Withdrawal amount||Tax due for a basic rate taxpayer if a single withdrawal is made||Tax taken under ‘month 1’ basis|
Source: AJ Bell
All the necessary forms to reclaim overpaid tax can be downloaded from the the gov.uk website. Which one you need to complete will depend on your own financial circumstances and the nature of your withdrawal. These are as follows:
- Form P50Z: If you took all the money out of your pension and have no other income in the current tax year.
- Form P53Z: If you took all the money out of your pension and have other taxable income.
- Form P55: If your withdrawal didn’t empty your pension and you are not taking regular payments from it. (This form is only to be used if your pension provider cannot process the rebate for you, so get in touch with your provider first).