Since April 2015 people aged over 55 with pension funds have been able to withdraw money lump sums rather than be required to purchase an annuity with 75 percent of the pension pot.
The rule change, introduced by former Chancellor George Osborne, led to nearly 250,000 people taking advantage and drawing money from their pensions between 6th April 2015 and 5th April 2016. Prior to this change people were forced to buy an annuity with the 75 to 100 percent of the pension pot (only up to 25% could be drawn as cash tax-free).
Over 84 percent of people aged between 55-69 chose to take the cash amount rather than purchase an annuity in the 2015/2016 tax year. Overall, across all age groups, 44 percent took the lump sum option. The monetary equivalent of over £3.5 billion.
With the Self Assessment Tax Return deadline of January 31st now over it is emerging that, due to an error with tax codes, these lump sum withdrawals may have been taxed incorrectly.
HMRC issues pension providers with the taxpayer's tax code which is adjusted based upon the income of the individual over the previous tax year. But the chances are this code may be incorrect. Multiple income sources are not generally handled very well under the HMRC PAYE system and whereas regular extra income can be accounted for and included into an adjusted tax code, a lump sum one-off source of income will likely throw the system off.
Industry analysts think the likelihood is that tax will be underpaid in cases where an individual is a higher rate taxpayer (40/50 percent) but has paid at the basic rate (20 percent) and once discovered the Taxman could impose late payment penalty charges.