Tax  

Webb wants to end 'absurd' emergency pension tax

Webb wants to end 'absurd' emergency pension tax

Former pensions minister Sir Steve Webb is calling for the government to reform the way pension withdrawals are taxed, as tax over-payments since the start of pension freedoms have now reached £305m.

The director of policy at Royal London wants a system where the basic rate tax is applied to all pension withdrawals at source and any adjustment is made through end year tax returns.

HM Revenue & Customs (HMRC) published data last week that showed in the first quarter of 2018 alone more than £22m had to be repaid to retirees where too much tax had been collected from those making ‘flexible’ withdrawals from their pension savings.

Article continues after advert

With the introduction of pension freedoms in 2015, savers have been able to take advantage of the high transfer values of defined benefit schemes and to move their nest eggs into defined contribution plans, which they can then draw an income from at whatever rate they choose.

These withdrawals are taxable at an individual's marginal income tax rate.

In some cases, the pension provider will already have a proper tax code for the beneficiary, if the saver has previously withdrawn money from their pension during the tax year, Sir Steve said.

However, where the provider does not have the correct tax code for the individual - which Sir Steve said is in the majority of cases -  withdrawals are taxed using a higher rate emergency tax code, which routinely results in an excessive tax deduction which then has to be reclaimed, he said.

According to figures from the Office for National Statistics (ONS), funds transferred out of pension schemes almost tripled to a record £34.2bn in 2017.

Around 10,000 people had to claim back overpaid tax in the last quarter.

Sir Steve said: "These quarterly figures are a regular reminder of the absurd way in which pension withdrawals are taxed.

"HMRC is perfectly happy to over-tax tens of thousands of people each year and make them jump through hoops, having to choose between three different forms to complete and then wait to get their money back. This is a system run for the convenience of HMRC, not the taxpayer."

Tom Selby, senior analyst at AJ Bell, said: "While it is good that over £300m has now been repaid to savers through the official forms, the reality is most people who are overtaxed do not fill out these forms and so rely on HMRC to reimburse them – a process that could take months.

"The level of overtaxation is therefore likely to be significantly higher than the official figures quotes by the Government.

"We urge HMRC to at the very least review its approach to the taxation of pension freedoms withdrawals, which was never consulted upon and has already caused huge problems for hundreds of thousands of people."

This is not the first time Sir Steve has called for the government to overhaul the taxman system, since he has been alerting to this situation since last year.