The scandal began when pension freedoms were introduced in 2015, allowing people to withdraw money from their retirement savings from the age of 55 onwards. Any withdrawals are added to your total earnings for that year, and will be subject to income tax if above the £12,570 personal allowance.
As a general rule, HMRC only makes people pay tax if they actually owe it. But that’s not the case with pension withdrawals.
Since 2015, pensioners have been forced to pay a staggering £1.3 billion in tax they don’t owe, completely unnecessarily.
And new figures show the total is growing all the time.
The average overpayment is a hefty £3,450, the third highest figure on record. Incredibly, some have had to hand over as much as £55,000.
And while people can claim that money back, it takes time and effort. Plus there’s scope for mistakes, too.
Between April and June this year, more than 16,000 savers had to reclaim a total of £57million they had paid in tax but didn’t actually owe.
Tom Selby, director of public policy at AJ Bell, pinned this is on “HMRC’s outdated approach to the taxation of flexible pension withdrawals, which continues to hit hard-working savers”.
Worryingly, the true overtaxation figure is likely be substantially even higher than that, with the poorest hit hardest.
Selby warned: “People on lower incomes who are less familiar with the self-assessment system might be less likely to go through the official process of reclaiming the money they are owed. As a result, they’re reliant on HMRC putting their affairs in order.”
He added: “It is simply unacceptable that, almost a decade on from the introduction of the pension freedoms, the government has failed to adapt the tax system to cope with the fact Brits are able to access their pensions flexibly from age 55.”
Instead, taxpayers are hit with an unfair bill, often running into thousands of pounds, and are forced to fill in one of three complicated forms if they want to get their money back within 30 days.
Otherwise, they have to wait until the end of the tax year.
This is a real problem for people who make pension withdrawals with the aim of meeting a payment or bill, as they end up with less than they expect.
Many had no idea this would happen and had earmarked the money for their own personal use. And why wouldn’t they? It’s their money all along.
The Tories failed to fix it and Labour has enough on its plate, so the problem is likely to persist for many more years.
When people withdraw money from their pension pots, HMRC applies an emergency tax code on the cash. Unfortunately, it works on a very odd assumption.
HMRC assumes they will continue taking the same amount every month for the entire financial year.
It will do this even if someone is only making a single one-off withdrawal.
Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, finds it “inconceivable to think that people are still being overtaxed on their first pension withdrawals”.
She’s not the only one.
Many will have had a nasty shock when their tax bill was way higher than expected, she added. “This can cause them huge problems: a tax nightmare is not the way to start your retirement.”
Yet that’s exactly what people are getting.
Morrissey said you have two options to get a refund: either wait until the end of the tax year or filli in one of three forms known as P55, P53Z or P50Z.
She added: “This is a complication many people do not need and it’s a situation that should have been resolved years ago.”
She’s dead right. But HMRC isn’t going to change course.
