Since the onset of the Coronavirus pandemic, both stock markets and commodity markets have fallen considerably and are likely to remain volatile for a while. The current value of your pension as well as your personal financial situation may have led to thoughts about what you should do with it.
In this briefing we look at defined contribution pensions, which can be various types of money purchase schemes provided by an employer to which both they and you contribute, personal pension plans to which you contribute or a Self-Invested Pension Plan (SIPP) over which you have full control of investment decisions.
If you are lucky to have a defined benefit pension, then any investment risk is borne by your employer. The state pension is also unaffected by fluctuations to the stock market.
Before touching your pension pot(s) you should actively look for other available help.
What other financial assistance and reliefs are out there
We have detailed over the last weeks the various reliefs and financial resources available to individuals during the Coronavirus pandemic:
Coronavirus Job Retention Scheme https://www.src-time.co.uk/blog/coronavirus-job-retention-scheme-made-easy-employers-20-april-2020
Self Employment Income Support Scheme https://www.src-time.co.uk/blog/self-employment-income-support-scheme-latest-update
Coronavirus Business Interruption Loan Scheme https://www.src-time.co.uk/blog/coronavirus-business-interruption-loan-scheme-cbils-major-update
Universal Credit https://www.src-time.co.uk/blog/src-time-guide-universal-credit
Declining value of your pension pot – don’t panic
Pensions are long term investments, and although not guaranteed, values can go up over time. If you have several years before you are planning to draw on your pension, then there could still be time for your pot to recover from fluctuations in the stock market or commodities markets that occur in the short to medium-term.
I want to access my pension pot
Depending on when you were originally planning to retire or withdraw money from your pension, you may have to consider taking a lower retirement income than planned, if you withdraw pension funds now. If you access your pension savings now, you might miss out on any increase in value if markets recover.
If you are aged 55 or more, you can normally take up to 25% of your pension pot tax free, but if you take more than 25% there will be tax implications, which we detail below.
Taking money from your pension may also limit how much you can pay into your pension in the future.
Tax implications of withdrawing from your pension pot
In normal circumstances, you cannot withdraw any of your pension before the age of 55 without paying a huge tax penalty. Any pension savings withdrawn before the age of 55 are subject to a penal 55% tax rate, irrespective of your normal income tax rate.
If you are aged 55 or more, you can withdraw a maximum of 25% of all your pension savings with no tax liability. Any excess will be subject to tax
Due to an unfortunate quirk in the tax system, the first lump sum you take from your pension often won’t be taxed correctly, meaning that you will pay more tax than you need to. Income tax is deducted from your lump sum through the PAYE system. However, for your first withdrawal, your pension company will not know your personal tax code, or about any income you have from other sources.
Therefore, it applies a ‘Month 1’ tax code to your lump sum, which assumes the amount you have withdrawn is 1/12th of your annual income. So, if you withdraw £20,000 from your pension as a lump sum, the withdrawal is assumed to be part of a £240,000 annual income. This means you could lose some or all of your personal tax-free allowance and a big chunk of your lump sum could be taxed at the highest 45% rate, even if your total income for the year is much lower.
HMRC should eventually repay this tax to you, ordinarily at the end of the tax year, but there is a system in place for people to actively reclaim overpaid tax. Depending on your situation, you can complete one of three online forms to make your claim, and the process should take no longer than four weeks.
- P55 is for those who take out some but not all their pension as a lump sum
- P50Z is for those who take out all their pension and are no longer working
- P53Z is for those who take out all their pension and are still working
This should only happen on the first withdrawal you make. Any subsequent withdrawals should have the correct tax code applied to it.
Limitation on future pension contributions
If you have taken a lump sum which was partly taxable, you can still add money to a pension. However, annual contributions into money purchase (e.g. personal and self-invested) pension schemes are limited to £4,000 because of the money purchase annual allowance (MPAA). This includes contributions made by your employer.
Any excess contributions will be added back to your income and taxed at your highest rate of income tax. You cannot utilise unused pension allowances from earlier years to increase this £4,000 limit
If you have only drawn down the tax-free amount, the usual pension contribution rules will continue to apply.
Making decisions about your pension based on short-term events and circumstances can have long-term consequences for your financial wellbeing and retirement. Before making any major decisions about your pension, it is important to get independent guidance or advice from an Independent Financial Advisor.
SRC-Time are one of the South East’s leading accountancy firms in advising individuals and businesses in all aspects of their accounting and tax affairs and we are able to assist in any issue raised above.
Our expert team is available to provide you with advice and can be contacted on 01273 326 556 or you can drop us an email at email@example.com or speak with an account manager to get any process started.