Tax on Pension withdraw

Pfgtips

Hi. I would like to take £38,000 from my pension in April under the new reform. I currently earn £29,000. I am a very confused regarding how much tax I need to pay. I realise I will go into the higher bracket tax but do I only 40% on anything over £41,846. Of that £38,000, £21,000 will be tax free.
Can anyone help please.

Dee

zagfles

Alternatively you could crystallise more than £38k and take 25% of the amount crystallised tax free and not draw on the rest yet.

For instance if the pot is worth more than £152k you could crystallise £152k and take £38k tax free, leaving the remaining £114k crystallised and available for drawdown (fully taxed) in later years.

Or if the pot is say £100k you could crystallise the lot, take £25k tax free and drawdown an additional £13k which would taxed (but nearly all at 20%, small amount at 40%).

Your pension provider won't necessarily offer these options, if not you'll have to transfer to someone who does.

jamesd

If you want to take £38,000 one way would be to take 25% of that as a tax free lump sum. The remaining 75% would be taxable as income under PAYE. So you would have £9,500 tax free and £28,500 would be added to your taxable income for the year. That would take your taxable income from £29,000 to £57,500. Taxation on that would be:

£10,500: your personal allowance, tax free. £47,000 of the £57,500 left after this.
next £31,865: basic rate. £31,865 is taxed at this rate, the tax bill will be £6,373. £15,135
rest up to £150,000: higher rate. The £15,145 is taxed at this 40% rate, so £6,054 of tax.

For the whole year you would have an income tax bill of £12,427, including for your regular pay. Your regular pay of £29k alone would have a tax bill of £3,700 so the pension adds an extra £8,727.

You wouldn't have to pay this tax directly. Instead the pension company would send you a payslip for the month just like an employer and you'd get the after tax amount.

But it's not as simple (or complicated!) as this. The current rules say that if you take a lump sum like this your pension provider has to pretend that you will get the same lump sum every month for the whole year. That would result in a big over-payment of income tax at the top 45% rate that you couldn't reclaim until the end of the tax year. There is one exception, if you were to take out all of the money in the pension you could reclaim the tax immediately. But of course that would mean taking out more money so you might end up paying top rate income tax anyway. Instead of doing it immediately you can tall HMRC what you plan to do and ask them to send your pension company a notice of coding. Then they will apply that instead of using the twelve times as much rule. But you'll need to wait a bit for this to all be in place.

zagfiles has described one excellent way around this. If you are already 55 years old another way is to start "capped income drawdown" this tax year. You can take out the 25% tax free lump sum immediately and between 6% and 8% of the remaining 75% as well, the GAD limit amount. Next tax year you can change to flexi-access drawdown and take out the rest. This way you can shift some of the taxable income into this tax year and that could let you avoid paying any tax at 40%.

Both ways rely on having something extra in the pension pot above the £38,000.