Take lump sums leaving the rest invested in your UK pension
You take cash from your UK pension as and when you need it, but the bulk of your pension money remains exactly where it is in your pension making it similar to a bank account.
How does it work?
When you do take cash, a quarter of each amount is tax-free, the rest is taxed as income.
You take out £10,000, £2,500 of it is tax-free, and £7,500 is taxed as income.
One of the advantages of this option is that the bulk of your money remains invested in the pension, so it is hopefully making you more money for when you want to eventually take it.
How do I actually get the money out of the pension?
You just need to contact your pension provider and let it know how much you want to withdraw. Be aware, once you have instructed the pension provider, you can’t change your mind.
Depending on the provider this may take days or weeks to process and you would have to specify which account you want the money to go to. If any investments such as shares have to be sold to cover the amount you want to take, then it could take even longer to get the money.
Charges when you take out your money
Being able to access your pension this way is a fairly new process for pension providers, so if it doesn’t offer it yet, it may be putting in the process to offer it in the future.
Most of the big providers are not charging for ad hoc withdrawals. However, some will allow you to have a certain amount free and then will charge you for the rest.
What is the tax situation?
Although this option gives you the most flexibility on how you access your pension, the biggest thing you need to be aware of is the tax implications.
As explained above, the first 25% of each lump sum of money you take is tax-free. How much tax you pay on the remaining 75% depends on your total amount of taxable income. Most people will be aiming not to withdraw too much in a year, so it pushes them up a tax bracket.
For example, most people earn up to £50,000 a year (2020) before paying the higher 40% rate of tax. So if you earned £40,000 then took a taxable £10,000 out of your pension it’d still be at the 20% basic rate. But if you took £15,000 out, £10,000 would be at the 20% rate, the rest (£5,000) at 40%.
Be careful of emergency tax
If you decide to take a lump sum out of your pension, you may be charged the emergency tax rate. That means you are taxed as if you earn that amount every month.
For example, let’s say you earn £2,000 a month and take £13,000 out. On emergency tax it’d tax you as if your earnings were £180,000 a year (ie £15,000 x 12 months) – which means you’d be paying tax at the highest 45% rate on £30,000 of your earnings.
This will be settled at the end of the year – so you’re not out of pocket long term – or you can claim it back more quickly by filling in an HMRC P50 or P53 form – but in the short run it will leave you out of pocket. This needs considering.
What happens when I die?
Taking this option means that you can leave any remaining money to your beneficiaries tax- free when you die. But there are a some considerations.
If you die before age 75
Your beneficiaries can take the whole pension fund as a lump sum or draw an income from it tax-free. Dependants (but not other beneficiaries) can also choose to buy an annuity, in which case the income will be taxed.
If you die after age 75
Your beneficiaries have three options:
Take the whole fund as cash in one go: If they choose this, the pension fund will be subject to 45% tax.
Take a regular income: If they choose this through income drawdown or an annuity (option only available to dependants), the income will be subject to income tax at your beneficiaries’ marginal rate.
Take periodical lump sums: If they choose this, the lump sum payments will be treated as income, so subject to income tax at your beneficiary’s or beneficiaries’ marginal rate.
You cancontinue to put money into my pension once you start taking money out from it. But it’s important to understand that as soon as you make just one withdrawal, you will NOT be allowed to put more than £10,000 a year into your pension (it’s up to £40,000 if not).
This is to discourage people from simply taking money out of their pension to get the tax-free allowance and then shoving the rest back into the pension and taking it out again, getting tax relief on that too.