- Retirement centre
- Guide to pensions
- Understanding tax
Your guide to tax
Paying tax on your pension
When you take money from your pension savings, either as one or more lump sums or as regular income, you’ll usually have to pay tax.
Whatever you take out will be added to any other income you have in the same tax year, including state pension, benefits and salary payments. This may mean you pay a higher rate of tax. The tax year runs from 6 April one year to 5 April the next.
In some cases money you receive from your pension will be made after tax has been taken off by your provider, in others you’ll be responsible for telling HM Revenue & Customs (HMRC) what you earn and what you owe. How much you’ll pay depends on your circumstances and the way you’ve chosen to access your savings. If you take the money in a number of different tax years you may pay less tax than if you take it all in one go
It’s also worth thinking about what happens to any money left in your pot after you die. If that happens before the age of 75, any money left in your pension pot will usually pass on tax-free. After that age, any money you leave will be taxable.
Help to understand what tax you’ll need to pay
Tax rules can be complicated, so we’d recommend taking expert advice on how you might be taxed before you make a decision. Pension Wise from MoneyHelper or your local independent financial adviser via Unbiased will be able to help. You can also contact HMRC.
Our lump sum tax calculator will give you an at-a-glance guide to how much tax you might pay if you take your pension savings as a lump sum.
Your questions answered
These are some of the questions you might have if you’re thinking about accessing all your pension savings as cash.
-
There are a number of ways this could impact your income and the tax you need to pay:
- You could end up paying tax at a higher rate if your lump sum plus your existing income pushes you into a higher tax bracket.
- Any means tested state benefits you’re allowed could be reduced.
- You might not be able to save as much for future additional pension benefits.
- There will be nothing left in your fund to pass on when you die.
- You could lose any guarantees in your policy, like Guaranteed Annuity Rate (GAR) – check with your provider if you have one and how it works.
- If you take savings from your pension pot before your chosen retirement date, your fund could be reduced by a Market Value Reducation (MVR).
- You risk running out of money during retirement, for example to cover long term care needs or to support dependants. A dependant is someone who depends on you for financial support, such as a child or family member who does not work.
- You can’t change your mind.
-
If you have a Phoenix Life Individual Pension Policy, our lump sum tax calculator will give you an idea how much tax you’d pay if you took your full pension pot as cash.
If you cash in your pension policy the first 25% you take out is usually tax free. Your pension provider applies the level of tax you need to pay, based on HMRC rules, to the rest. The tax rules depend on the size of your pension savings and if you’ve received cash from any other savings before.
It’s important to understand the amount taken by your pension provider on behalf of HMRC won’t always be the final amount you pay. Other income that your provider isn’t aware of will affect the final amount you owe. You could have underpaid or overpaid.
-
You’ll need to contact HMRC directly. They’ll be able to help.
-
No, HMRC will automatically assess the tax applied by your pension provider as well as anything else you owe. They’ll contact you shortly after the end of the tax year to correct over or underpayments.
-
We recommend that you contact Pension Wise, from the government’s MoneyHelper service. You could contact an independent financial adviser.
-
You have a number of options, including taking your lump sum in stages instead of in one go. Pension Wise or an indenpendent financial adviser will be able to tell you more. You’ll also find case studies on our website that show how taking your lump sum in stages could lower the amount of tax you’ll need to pay.
-
The first thing to remember is that you don’t have to access your savings when you reach the retirement date on your pension plan. You can keep your money where it is until you’ve decided what you’d like to do with it. Alternatively, you can:
- Buy an annuity offering guaranteed income for life
- Get a flexible income
- Take your savings as a number of lump sums
- Take all your pension savings in one go (cashing-in)
- Choose more than one option or mix them
We would always recommend shopping around to get the right option for your needs, and speaking to an impartial expert by:
- Contacting Pension Wise at the government's MoneyHelper service.
- Speaking to a financial adviser. You can find one local to you at Unbiased.
There’s also an excellent guide to shopping around on MoneyHelper.
If you’d like further information on any or all of these options, take a look at what are my retirement options.
Case studies
Our tax implication case studies are here to help you to gain a better understanding of some of the tax implications you should consider when thinking about taking your pension savings as a cash lump sum.
-
Susan, a part time doctor’s receptionist from Bristol, had just turned 55 and was thinking about taking her pension early, even though she wanted to carry on working in her £10,000 a year job.One of the deciding factors was that her daughter was just about to go to university and Susan thought she’d take the whole pension fund of £25,000 as a cash sum and put it towards her daughter’s fees.
She talked to her pension provider who explained that 25% of the cash sum (£6,250) would be tax free, but based on HM Revenue & Customs (HMRC) regulations they would have to apply and emergency tax rate on the remaining amount of £18,750. With emergency tax applied, this meant that Susan would receive £18,184 directly from her pension provider so would be paying £6,816 in tax on her £25,000 pension fund.
Her pension provider went on to explain that whilst an emergency tax rate would be applied initially, this would not be Susan’s final tax year-end position and advised that she should contact HMRC to check whether she would overpay on her tax for the year.
Susan contacted HMRC and they advised that when taking all of her yearly income into account (£10,000 from her job and the £25,000 lump sum from her pension fund), Susan’s yearly income would be taxed using 20% basic rate tax.
This meant that Susan would therefore be due an overall tax refund.
Please see below for a breakdown on Susan’s final tax year-end position.
Susan’s year-end tax position including £25,000 pension fund withdrawal:
£10,000 income earnings + £18,750 (£25,000 – 25% tax free amount) = £28,750
£28,750 – Personal allowance of £12,570 = £16,180
Total year-end tax due, £16,180 @ 20% = £3,236
As emergency rate tax would be applied to Susan’s pension fund withdrawal, she would pay £6,816 in tax. However, when taking all of her income into account (salary + pension fund withdrawal), Susan would in fact only be due to pay £3,236 in tax. Susan would therefore be entitled an overall tax refund of £3,580.
How would Susan claim her tax refund?
She could either wait until after the end of the tax year when HMRC will automatically assess the tax she has paid and contact her with a relevant refund payment. Alternatively she could complete the relevant form detailed below which can be found on the GOV.UK website or contact HMRC on 0300 200 3300.
Form P53Z if you have other sources of income.
Personal allowance and tax rates used are based upon rates for 2024/2025.
-
When care home manager John was nearing his 60th birthday, he thought about taking his full pension fund as a cash lump sum of £25,000 to treat himself and his wife to a luxury holiday, as well as using some of the cash to pay for improvements around the house.He was still working, with an income of £50,000 a year, and his pension provider explained that 25% of his £25,000 pension fund would be tax free (£6,250) but based on HM Revenue & Customs (HMRC) regulations they would have to apply an emergency tax rate on the rest.
His pension provider went on to explain that whilst an emergency tax rate would be applied initially, this would not be his final tax year-end position and by taking the £25,000 lump sum in addition to his regular income, his total yearly earnings could go into the higher rate tax bracket. John was advised to contact HMRC to check what his final year-end tax position would be.
John went ahead and cashed-in his £25,000 pension policy and after emergency rate tax was applied he received a cheque for £18,184, so had paid £6,816 in tax.
John contacted HMRC to find out what his year-end tax position would be. When they looked at all of his yearly income of £50,000 plus the £25,000 cash lump sum he had received from his pension policy, they confirmed that John had actually overall underpaid on his yearly tax by £330.
Please see below for a breakdown on John’s final tax year-end position.
John’s year-end tax position not including £25,000 pension fund withdrawal:
Other Income £50,000
Personal allowance £12,570
Tax due: £50,000 - £12,570 = £37,430 @ 20% = £7,486John’s year-end tax positionincluding£25,000 pension fund withdrawal:
£50,000 income earnings + £18,750 (£25,000 – 25% tax free amount)= £68,750
£68,750 – Personal allowance of £12,570 = £56,180
£37,700 to be taxed @ 20% = £7,540
£18,480 to be taxed @ 40% = £7,392Total year-end tax due, £7,540 + £7,392 = £14,932
At year-end, John had paid £14,302 in tax (£7,486 from his £50,000 earnings + £6,816 from his initial tax payment from his pension fund).
He was actually due to pay £14,932 in tax due to his yearly earnings (£50,000 + pension fund lump sum). This meant he has underpaid by £630.
John also realised that by taking his entire pension savings as a cash lump sum, this had pushed his total yearly income into the higher rate tax bracket which had meant that £18,480 of his £25,000 pension fund had been taxed at 40%.
How will HMRC claim John’s underpaid tax?
HMRC will automatically assess the tax paid after the end of the tax year and contact him directly to correct any under payment.
Personal allowance and tax rates used are based upon rates for 2024/2025.
-
Linda was earning £35,000 a year working as a college lecturer. As she approached her 55th birthday, she was looking to carry on working but cash in her £25,000 pension policy and take it as a lump sum. When she contacted her pension provider to talk through the option of taking her entire pension savings as cash, one of the considerations was the risk of this taking her earnings into the higher rate tax bracket.She wanted to make the money work for her as much as possible, so she went away to seek advice from a tax adviser.
She was informed that if she took out the whole £25,000 as a lump sum, the first 25% would be tax free but due to HMRC regulations her pension provider would have to apply emergency tax to the remaining amount. This would not however be her year-end tax position and to gain a final year-end tax position HMRC would add the cash received from her pension fund to any other income she received.
If Linda took the entire £25,000 out in one go and taking into account her £35,000 a year salary, her final year-end tax position would mean she would pay a total of £8,932 tax on her income for the year.
Please see below for a breakdown on Linda’s final tax year-end position if she took the entire £25,000 in one go.
Linda’s year-end tax position not including £25,000 pension fund withdrawal:
Other Income £35,000
Personal allowance £12,570
Tax due: £35,000 - £12,570 = £22,430 @ 20% = £4,486Linda’s year-end tax position including £25,000 pension fund withdrawal:
£35,000 income earnings + £18,750 (£25,000 – 25% tax free amount) = £53,750
£53,750 – Personal allowance of £12,570 = £41,180
£37,700 to be taxed @ 20% = £7,540
£3,480 to be taxed @ 40% = £1,392Total year-end tax due = £8,932
Linda then looked into what would happen to the amount of tax she would pay if she took her £25,000 pension pot over 2 years.
Linda’s year-end tax position including £10,000 pension fund withdrawal in year 1 and £15,000 in year 2:
Tax year 1:
£35,000 income earnings + £7,500 (£10,000 – 25% tax free amount) = £42,500£42,500 – Personal allowance of £12,570 = £29,930
£29,930 to be taxed @ 20% = £5,986
Total year-end tax due year 1 = £5,986
Tax year 2 (assuming no increase in income and no changes to personal allowance amount):
£35,000 income earnings + £11,250 (£15,000 – 25% tax free amount) = £46,250£46,250 – Personal allowance of £12,570 = £33,680
£33,680 to be taxed @ 20% = £6,736
Total year-end tax due year 2 = £6,736
Comparison of taking the whole of your pension fund in tax year 1 or splitting the amount over 2 tax years
Amount of tax paid in year 1: £35,000 regular income plus taking the entire lump sum of £25,000 = £8,932
Amount of tax paid in year 2: £35,000 regular income only = £4,486
Total amount of tax over a 2 year period = £13,418Amount of tax paid in year 1: £35,000 regular income plus taking £10,000 from pension fund = £5,986
Amount of tax paid in year 2: £35,000 regular income plus taking £15,000 from pension fund = £6,736
Total amount of tax over a 2 year period = £12,722Tax saving of £696
Personal allowance and tax rates used are based upon rates for 2024/2025.
These case studies are a fictional representation of people’s experiences and are for illustration only. They are based on individual pension policies. Everyone’s circumstances are different and your personal circumstances, however similar to the case study, need to be taken into account when reviewing your pension.
These case studies do not constitute tax advice or advice or guidance regarding your pension and you should seek pension guidance before making any decision.
-
Contact us
I would like to discuss my retirement options
-
Pensions guidance
I would like to find out more about the pensions guidance available to me