Tax and your retirement

In simple terms, you don’t pay tax when you’re saving into your pension, but you do pay tax when you take your pension.

When you are saving into your pension, the government adds the tax you normally would have paid in income tax, in to your pension. So, as a 20% taxpayer, if you were to invest £100, tax relief would be added of £25 which is 20% of the gross contribution.

When you come to draw money out of your retirement savings, the government tax some of this money as if it were income. Normally 25% of your pension savings can be withdrawn tax-free. The remaining 75% will be taxed as income.

For example

Taking a lump sum (These figures assumed a confirmed tax code is being used and not an emergency tax code)

Lump sum25% tax-freeTaxed amountPersonal allowance 2015/16Tax ratesTotal tax bill
£20,000 £5,000 £15,000 £10,600 20% x £4,400 £880
£40,000 £10,000 £30,000 £10,600 20% x £19,400 £3,880
£100,000 £25,000 £75,000 £10,600 20% x £31,785
40% x £32,615

Taking an income (These figures assumed a confirmed tax code and the tax-free personal allowance is already used)

Total pension25% tax-freeAmount left to provide an incomeChosen annual incomeTax paidIncome after tax
£100,000 £25,000 £75,000 £3,000 @ 20% = £600 £2,400
£200,000 £50,000 £150,000 £6,000 @ 20% =  £1,200 £4,800

The information in the two tables above is based on our understanding of current law and practice. Tax law and practice may change in the future. These figures do not take into account any other taxable income you may receive or additional taxable income that may move you into a higher tax bracket. These figures are for illustrative purposes only. The amount of tax you pay will depend on your personal circumstances.

Pass on your pension tax-free

If you die before the age of 75, your beneficiaries can take whatever remains of your pension savings as a tax-free lump sum, or take a tax-free income either through an income drawdown plan or an annuity.

If you die after your reach 75, your beneficiaries will have to pay tax on any money that’s passed on. If they take the money as a lump sum it will be taxed at their marginal rate of income tax.

Annual Allowance

  • The amount of money you can save into your pension each year while still receiving tax relief.
  • For the 2016/17 tax year the Annual Allowance is £40,000 or 100% of your salary if that is less.
  • The allowance will be reduced by £1 for each £2 of income between £150,000 and £210,000. The minimum allowance for those earning £210,000 or more will be £10,000.
  • If you exceed this limit you won’t receive any tax relief on the amount over the limit, and you may be liable to an annual allowance tax charge.
  • If you are not earning enough to pay income tax, you can still receive tax relief on pension contributions up to a maximum of £3,600 a year.

Money Purchase Annual Allowance

  • The Annual Allowance is decreased when you start to take flexible income from your pension; this is known as the Money Purchase Annual Allowance.
  • This is the amount of money you can save in to defined contribution pensions, across all the schemes you belong to, and receive tax relief on.
  • For the 2016/17 tax year the Money Purchase Annual Allowance is £10,000.
  • If you exceed this limit you won’t receive any tax relief on the amount over the limit, and you will be liable to a tax charge.

Lifetime Allowance

  • A limit on the amount of pension benefit that can be drawn from pension schemes, whether as lump sums or retirement income, and can be paid without triggering an extra tax charge.
  • For the 2016/17 tax year the Lifetime Allowance is £1 million.
  • You may incur a charge when you go over this limit if you have not protected your savings. If you think you may breach this limit, we recommend you take financial advice.