How is tax taken from first annual allowance lump sum

Scrudgy

Hello all
Regarding a SIPP that my wife is about to access for the first time can someone tell me how tax is applied based on the following.

The 25% TFLS is obviously easy and will be free of tax, however she is also taking an additional £12,500 one off lump sum which will be her personal tax allowance for this year. She has no other income in this tax year, and hasn’t earned any money since 2006, she doesn’t have a tax code or P60 or P45.

Does anyone know if the £12,500 lump sum will be taxed based on HMRC thinking there will be more income in this tax year (which there won’t be) and take a chunk off her payment which will have to be claimed back? Or is there a system to avoid the tax being taken at all?

Many thanks

p00hsticks

In my experience from a couple of years ago, as the pension company haven't been told her tax code by HMRC, they'll use a BR tax code and deduct 20% off the additional lump sum.

You can get this back from HMRC within a few weeks by completing a P55 form - either online via a Government Gateway account or by printing the form off and posting it.

https://www.gov.uk/government/publications/flexibly-accessed-pension-payment-repayment-claim-p55

Dox

Scrudgy said:

Does anyone know if the £12,500 lump sum will be taxed based on HMRC thinking there will be more income in this tax year (which there won’t be) and take a chunk off her payment which will have to be claimed back? Or is there a system to avoid the tax being taken at all?

The problem arises because someone taking a large lump sum from their pension registers on HMRC's PAYE radar as someone who is going to take a similar lump sum each month for the rest of the tax year. If your wife takes her tax free cash and a very small payment in addition, the 'small payment' will be taxed on an emergency code basis by her SIPP provider - but because it's a small amount, the unused personal allowance for 2020/21 (April-October) should ensure no tax is deducted.

If she then waits for a tax code to be sent to her SIPP provider (usually a matter of a few weeks), they can then apply that for the rest of the tax year, instead of taxing her on an emergency coding.

squirrelpie

p00hsticks said:

In my experience from a couple of years ago, as the pension company haven't been told her tax code by HMRC, they'll use a BR tax code and deduct 20% off the additional lump sum.

That doesn't match my experience. In my case they used an 'emergency code', which is Basic Rate month 1. That means they take the taxable amount, multiply it by 12 because they assume you are going to do the same thing every month for the next year (even if there's only one month left in the tax year!) and tax you on the basis of the gross income. So even relatively small amounts can be taxed at higher rate.

You can reclaim it as stated, though it can be a shock to start with. You can avoid it by first withdrawing a small amount (even £1), which causes the pension provider to tell HMRC, which causes HMRC to issue a more sensible tax code to the provider. You can then phone HMRC and discuss like grownups the best allocation of allowances to suit your actual intentions.

xylophone

See
https://www.pensionbee.com/pensions-explained/pension-withdrawal/emergency-tax-on-pensions#:~:text=Emergency tax on pension lump,date tax code from HMRC.

molerat

As xlophone's link and from experience they will tax at 1250M1. Trivial and winding up lump sums are taxed at BR.

Dazed_and_C0nfused

Which would mean a tax deduction of £3,957.80 from a first payment of £12,500.

If the first payment was £1,042 or less then no tax would be deducted.

meadow2018

When I took a lump sum over the 25% it was taxed as BR month 1 so I was taxed at 20% on the amount 'allowed' for month 1 (i.e) tax allowance of 12500 ÷ 12 .  Anything over this I was taxed at 40% even though with the payment and my salary I was well under the 40% tax rate.  I had to claim the extra tax back from HMRC.

Dazed_and_C0nfused

BR month 1 would be 20% tax on the whole payment even if it was a million pounds.

meadow2018

Sorry I made a mistake on the tax code but still paid 20% on some of the payment then 40% on most of the payment.  It was in April so beginning of the tax year.

squirrelpie

Dazed_and_C0nfused said:

BR month 1 would be 20% tax on the whole payment even if it was a million pounds.

No. The BR just means that there's no allowance to apply before starting the tax calculation and that it starts at the bottom of the range. But it can go as high as necessary.