Withdrawals from pension plans

February 24th 2015

In his March 2014 Budget, the Chancellor of the Exchequer announced that, from April 2015, people aged 55 or more will be able to withdraw as much as they like, whenever they like, from their Personal Pensions and similar retirement saving plans. That is a simple enough concept, but the new arrangements will be governed by detailed and complex rules, and there have been some ‘scare stories’ - for example, incorrect reports that the traditional 25% ‘tax free lump sum’ will no longer be available.

Very broadly speaking, from April, somebody wishing to draw money from a pension plan will have three choices:

  • The traditional package of a 25% tax free lump sum and an annuity for life.
  • Taking 25% as an immediate tax free lump sum, and designating the balance as a ‘flexi-access drawdown fund’. Withdrawals from this fund can be taken at any time, but will be taxed as income of the year in which they are taken.
  • Not taking an immediate tax free lump sum, but taking a series of ‘uncrystallised funds pension lump sums’ (UFPLS). Each such payment will be treated as 25% tax free and 75% taxable income of the year in which it is taken.

It will also be possible to split total pension savings into separate ‘pots’, so that (for example) the individual has both an annuity and a ‘flexi-access drawdown fund’.

There is no ‘right answer for everybody’. For example, some pension plans (especially those taken out in the 1980s or earlier) offer a ‘guaranteed annuity rate’, which may seem very attractive in today’s low interest rate environment, making the traditional annuity still the best option. Watch that the guaranteed rate is usually only available if the annuity begins on the ‘normal retirement date’ specified by the policy.

The 25% immediate tax free lump sum may be the best choice if the policyholder needs a capital sum - for example, to pay off or reduce a mortgage. Otherwise, the ‘uncrystallised funds pension lump sum’ route may be preferable, because as the pension fund continues to grow in value, the amount available to be taken as the tax free part of future withdrawals will rise proportionately.

As withdrawals (other than tax free withdrawals) will count as income of the year in which they are taken, there will be an art in timing them, so as not to waste the income tax personal allowance, or incur a higher rate charge. As a rough guide, a higher rate tax charge will be incurred if taxable withdrawals plus any other income (pensions, including the National Insurance Retirement Pension, earnings, interest and dividends, etc) exceed £42,385 a year (at 2015/16 rates).

And finally, two words of warning. The first is that these notes are a very brief introduction to a very complex subject and most people, especially if they have substantial pension savings, are likely to need expert professional advice. The second is that the small print on many pension plans states that an annuity will automatically be bought if the plan holder does not give notice to the contrary before his normal ‘retirement date’.

If you would like to discuss this article in more depth, please contact DSC Chartered Accountants in Harrogate on 01423 560547.