Accessing Your Pension Pot – Tax Factsheet
For defined contribution (DC) schemes, the minimum age to access your pension pot is 55 and this applies to anyone regardless of whether they intend to retire, work part-time or full time.
How an individual accesses their pension pot affects the way in which the funds are taxed. Under the new rules introduced in 2015, the way you can draw down on your pension fund is much more flexible and different options can be mixed and matched using different parts of one pension pot or using separate or combined pots. Broadly speaking, the first 25% of a members pension pot can be taken tax-free, there are different options available as to how the remainder of the fund is utilised, the detail of which is outlined below.
Leaving Your Pension Pot
If you already have enough income to meet your lifestyle requirements, it might be worth considering leaving your pension pot when you reach 55.
Whilst your pension remains untouched, the pot continues to grow tax-free, you can also continue to make annual contributions of up to £40,000, receiving further tax relief, until the age of 75.
Whilst there are many benefits to leaving your pension pot, consideration should be given to the lifetime allowances, future tax charges and loss of any income guarantees.
Buying a Guaranteed Income Annuity
You can usually take the first 25% of your pension pot as a tax-free lump sum. You can use the remainder of your pension pot to buy an annuity to provide you with an annual income for the rest of your life or a set number of years.
How much income you get each year will depend on a number of circumstances such as the value of your pension pot, your health and lifestyle and whether you want your income to increase each year. An income received annually from a annuity will be taxed at individual’s marginal rates.
Putting your pension into flexi-access drawdown allows you to take an income from your pension pot that is adjustable.
Unlike an annuity this option allows you to take cash sums from your pension as and when you need them. Much like an annuity option, the first 25% of your pension pot can be taken as a tax-free lump sum, the remainder is invested to give you regular taxable income.
The income that you get from your investments will be taxed at your marginal rates. You don’t have to put all of your pension pot into flexi-access drawdown, it can be done in stages and 25% of each tranche will be tax-free.
You can continue to make contributions to a DC pension scheme even if you taking an adjustment income from another but the tax-relief on contributions is capped at £4,000 per annum gross.
Taking Cash Lump Sums
You can take the whole or part of your pension pot as a cash lump sum.
Each time you take a chunk of cash you will receive 25% of the funds tax-free, the remainder will be classed as taxable income and taxed at your higher rate of income tax.
Much like the position with flexi-access drawdown, you can still make contributions to a pension pot even if you have started to drawn income from another but tax-relief on contributions is limited.
It is also important to note that most pension pots do not form part of an individual’s taxable estate on death and are not therefore liable to IHT on death, cashing in a large pension pot could therefore create a significant and unnecessary IHT exposure.
Deciding to take money from your pension is an important decision that should be thought through carefully. If you need advice on tax and pensions, get in touch with one of our team.