undefined (Image: ITV)
Money saving expert Martin Lewis has delivered a stark caution on ITV, highlighting that a grave blunder could be made by pension savers paying hefty tax by withdrawing their funds too early.
Mr Lewis shed light on the ramifications of a policy introduced by former chancellor George Osborne, which permitted people to access their pension pots at 55—a decision now shrouded in concerns about retirement security.
Currently raising alarm bells, Mr Lewis pointed out the impending changes stipulating that from April 2028, the age requirement will be elevated to 57. He said: “Near retirement? There’s a huge tax trap to avoid when withdrawing from a pension.
“If you do do this, it can reduce what you can put in later once you take the income. Now 25% of the money that you take out is tax free. The rest is taxed at your marginal rate. What does that mean? It means if you’re a basic rate taxpayer, of course there’s always a bit you don’t pay tax on, your personal allowance, but it’s 20%. If you’re a higher rate taxpayer, it’s 40%. That’s what you’re going to be taxed on.”
Mr Lewis then clarified the common misconception regarding withdrawals, asserting: “So if you take £10,000 out of your pension fund, £2,500 of that will be tax free. And the remaining £7,500 of it… you will pay tax on at your marginal rate that tax year. So you can’t just take it all out tax-free.”
The financial expert highlighted a savvy method for accessing pension funds, explaining: “There is an alternative way of doing it. If you take 25% out and put the rest in an income drawdown or annuity you can choose to just take 25% tax free and leave the rest in an annuity or an income drawdown so that it is taxed at the point you access that amount of money.”
He continued to stress the importance of this strategy: “So why is this important? Well, let’s contrast it here. Move on, please. Here you go. If you just take it out, imagine that right now you’re a higher 40% rate taxpayer. And at a later date, once you retire, you’re not going to have as much income, you’d be a 20% rate taxpayer.
Near retirement? There’s a huge tax trap to avoid when withdrawing from a pension. This is my simple video analogy but always get 1-on-1 free guidance from PensionWise first. This is just a titbit, watch my full Pension special on:
— Martin Lewis (@MartinSLewis)
“So you take your £10,000 out right now, your £7,500 of it is taxed at 40%, but if you could wait with it, it’d be taxed at 20%, so less tax would be paid.”
He added: “But if you do it this way, you can take all the tax-free, all the jam, all the sugary sweet, lovely bit out now. And you can wait until later on when your income drops down and you’re not as high a rate taxpayer to take the rest out so that you’d only be paying tax at 20%, not 40%, the same would work if you’re dropping from 20% to a non-taxpayer or higher.”
He concluded with a strong recommendation: “So the advantage of doing it this way is especially strong for those people who may pay tax, income tax at a lower rate later on because they have less income. And you can see why I’m saying you get this wrong, this could be thousands or tens of thousands of pounds difference that you’re unnecessarily paying, so please get guidance on that.”