MGM Advantage is warning that around 60,000 people could potentially fall prey to the higher rate tax bracket from next April, having taken advantage of the new pension freedoms.
People who have been used to paying tax under the pay as you earn (PAYE) system at the basic tax rate could find themselves being drawn into the higher tax bracket for the first time, and potentially being landed with an unexpected tax bill down the line.
Even those earning £33,288, the average income for a pre-retiree, taking little more than £20,000 as a lump sum from their pension, would find themselves pushed into the higher rate of tax for a portion of their pension payment. Those taking a larger lump sum would find themselves paying a significantly higher effective rate of tax than they are used to.
Andrew Tully, pensions technical director, MGM Advantage, explains: ‘The pension freedoms bring a new level of complexity and choice in how people access their pensions. One of my concerns, even with conservative estimates, is that many people could find themselves being dragged into the higher tax bracket and the self-assessment tax system for the first time. This could mean people either pay too little tax or too much tax, as well as the potential for hefty fines from HMRC for people who don’t complete their self-assessment on time.
‘Once you’ve taken the money, you can’t change your mind. This is an irreversible decision from a tax perspective, and could leave people wondering why they receive a tax bill further down the line. They may then not have the money available to pay their tax bill.
‘Our research shows that the awareness of the tax implications of pension lump sum withdrawals is low, so there is a clear danger of people making ill-informed decisions. At a time when people have access for the first time to possibly the largest single sum of money in their lives, well-informed decisions based on the facts will be crucial in ensuring good customer outcomes. Proper financial advice will play a key role.’
MGM research shows there is a concerning lack of understanding around the implications for taking the whole pension pot as cash, with 59% of people aged over 55 saying they do not understand the tax implications of such a move. The research also shows when the tax implications are explained, people are far more likely (83%) to leave their money in a pension wrapper and draw an income as needed, rather than taking the entire pot as cash in one go. 17% say they are happy to pay tax on any withdrawal.
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