HMRC is to end the ‘scandalous’ practice of overtaxing pension withdrawals and forcing savers to claim refunds.
It has bowed to pressure after pensioners had to reclaim £1.3billion of their own cash over the past decade – including £50million in the past six months.
Former Pensions Minister Steve Webb hailed the victory, saying ‘at long last’ HMRC had listened to ordinary taxpayers and will change a system he has in the past dubbed ‘an absolute disgrace’.
Since pension freedom reforms were introduced in 2015, HMRC docks extra tax off any initial sum taken from a fund on the assumption it could be ‘month one’ of a series over the rest of a tax year.
To sort this out, pension savers then have to claim back their cash from the taxman themselves or wait until it’s done after the end of the current tax year.
Many pension experts have condemned this as an unfair burden on savers, but HMRC has previously defended the system and insisted ‘nobody overpays as a result’.
But it took a new line in its latest pension schemes newsletter in an article called ‘helping customers get on the right pension pay faster’. Scroll down to see what it says.
This revealed that from this April it will move much more quickly to replace ’emergency’ tax codes with regular tax codes, which will make sure the correct amount of tax is deducted in real time.
Webb says this move should drastically reduce the need either for form-filling to claim back over-paid tax or end of year tax reconciliations, particularly when people make many withdrawals over one year.
‘It is great news that at long last HMRC has listened to the voices of ordinary taxpayers and changed this scandalous system,’ says Webb, who is This is Money’s retirement columnist and a partner at pension consultant LCP.
‘For too long, hundreds of thousands of people have been overtaxed and had to jump through hoops to claim back their own money.
‘This new system should mean that far more people are quickly moved on to the correct tax code and no longer end up with an overpayment of tax.
‘The tax system is complex enough as it is, and this change should hopefully reduce the complications which pension savers face when they try to access their hard-earned cash.’
In a column in response to a This is Money reader two years ago, Webb explained the current process for reclaiming ’emergency tax’ on pension withdrawals.
He told our reader: This is all a bit of a nonsense. I have repeatedly complained that HMRC routinely over-taxes people and then expects them to claim back their own money.
‘This system causes major disruption for people and is all about the convenience of HMRC rather than the taxpayer.’
Jon Greer, head of retirement policy at Quilter, says: ‘HMRC’s plans to streamline tax coding from April 2025 are a welcome step towards reducing the administrative burden on savers and minimising overpayments in the first place.’
But he adds: ‘Until systemic reforms are fully implemented, retirees will continue to face the risk of significant overpayments and the need to navigate a cumbersome claims process to reclaim their money.
‘HMRC’s efforts to address these issues are a step in the right direction, but there is still a long way to go to build a system that works seamlessly for savers.’
Helen Morrissey, head of retirement analysis, Hargreaves Lansdown, says: ‘HMRC has announced that from April it will automatically update tax codes for those who are on a temporary tax code and would benefit from being on a cumulative code.
‘This means they’ll avoid an overpayment or underpayment at the end of the year. This is great news for those taking regular income from income drawdown, but the problem persists for those taking lump sums.
‘In the meantime, you can take steps to mitigate this – for instance by making your first pension withdrawal a small one if possible.
‘If you do get landed with a bill, then you can get it sorted quickly by filling out a form and getting your money back as soon as possible. Otherwise, you will get your money at the end of the tax year.’
Tom Selby, director of public policy at AJ Bell, says: ‘HMRC has offered a glimmer of hope to those who take a regular drawdown income.
‘From April 2025, the government is improving its tax code process so these people will be moved from an emergency code to paying the right amount of tax more quickly.
‘But that doesn’t help those people taking ad-hoc lump sums from their drawdown pot and still means the first payment for all will be overtaxed.
‘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 Britons are able to access their pensions flexibly from age 55, instead persisting with an arcane approach which hits people with an unfair tax bill, often running into thousands of pounds, and requires them to fill in one of three forms if they want to get their money back within 30 days.’
What does HMRC say about emergency tax?
From April 2025 we are improving how tax code information is used for those people who are new to receiving a private pension, so they pay the right amount of tax from the outset.
We will automatically update the tax code for customers who are on a temporary tax code and would benefit from being on a cumulative code — this means they’ll avoid an overpayment or underpayment at the end of the year.
There is no need to contact HMRC and once a tax code has been changed we’ll inform customers by letter or digitally if they’ve signed up for paperless in the HMRC app or online.
