Tax sting in tail for thousands of pensioners

TENS of thousands of retired people will face a tax shock next year when new pension freedoms come into force.

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Many pensioners could end up paying 40 per cent tax - even if they paid just 20 percent when working

Many basic-rate taxpayers could find themselves paying a whopping 40 per cent of their pension savings to the taxman.

Worse still, many will not be expecting the tax bill and may not have enough cash to pay it.

These are the unexpected consequences of Chancellor George Osborne's recent decision to let older people take full control of their pension pots.

From next April, people aged 55 and over will be free to withdraw money from their pension pots to spend on whatever they like at retirement, rather than being pushed into buying an annuity by age 75, as they are today.

And hundreds of thousands of pensioners a year are expected to seize the opportunity to use their pension as a cash machine to fund their retirement.

However the new rules could have a tax sting in the tail for up to 60,000 people a year, according to new research by retirement specialists MGM Advantage.

While 25 per cent of the money you withdraw from your pension can be taken as a tax-free lump sum, the remainder will be treated as income and taxed accordingly. If you withdraw so much that it pushes you into a higher tax bracket for that financial year, then you could face a shock bill soon afterwards.

From April, the 20 per cent basic rate tax threshold will be £10,500 a year, while the 40 per cent threshold will be £42,285.

If your pension withdrawals push you over either of those thresholds, then you will pay a higher rate of tax on that income.

Many older people could find themselves paying 40 per cent tax, even if they paid only 20 per cent tax during their working life.

You can face a shock bill after your withdrawal

Given that pensioners need every penny in retirement these days, this could come as a real blow.

MGM Advantage's pensions technical director, Andrew Tully, said new pension freedoms are complicated and mistakes could prove costly. "Many people will not even realise they have to pay tax on the money and may not have enough money available to pay their bill."

Pensioners who withdraw larger sums of money may also have to complete a self-assessment tax return for the first time in their lives. They also run the risk of a fine from HM Revenue & Customs if they do not submit it by the deadline, Tully warned.

Almost six out of 10 over-55s have no idea of the tax implications of pension lump-sum withdrawals, Tully adds. "So there is a real danger of some people making ill-informed decisions and once you've taken the money, you cannot change your mind later."

When MGM Advantage told people how much tax they will have to pay, more than eight out of 10 said they would rather leave their money in a pension, and draw income as they needed it.

Only 17 per cent said they would still be happy to take the cash in one go, and pay tax on it.

MGM Advantage has an online calculator to help show people how much tax they could pay on lump sum withdrawals from their pensions from April 2015, at mgmadvantage.co.uk/calculator.

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