Under current UK pension rules, you can usually take up to 25% from each of your pensions as tax-free lump sums, provided the total amount taken is less than £268,275. This can be applicable across numerous DB & DC pensions, you aren’t restricted to accessing tax-free sum from only 1 pension pot. (as per tax year 2024 / 2025).
So when can I access my tax-free allowance !
From age 55, you can usually take up to 25% from each of your pensions without paying any tax, provided you:
- take the money as one or more lump sums (rather than regular income) and
- do not take more than £268,275 as lump sums in total.
The £268,275 limit is called the lump sum allowance (LSA) and applies to all your pensions, not to each one. It is limited to 25% of the lifetime allowance (£ 1,073,100) that was previously in place. When you access a pension, (what we call crystallised) your provider will record that amount and you are considered to have used a % of your lifetime allowance.
Example: If you had two untouched pension pots worth £100,000 and £200,000, you could take 25% as tax-free cash from the first pot (£25,000) and 25% from the second (£50,000).
Your LSA might be higher if you applied for some kind of pension protection before 6 April 2025.
Be aware: The minimum pension age (MPA) is being increased to age 57 with effect from April 2027. So you could be affected if you are currently in your early 50’s and don’t access your pot by this date. These rules are overriding by law across all schemes.
Some lump sums are not counted by the LSA
If you’re receiving money as a serious ill-health lump sum before you’re 75 (typically if you’re expected to live less than a year), it does not count towards the LSA.
Instead, you might get it all tax-free up to a limit of £1,073,100. This is called the lump sum and death benefits allowance (LSDBA).
Certain conditions are exempt and you allowance will not be reduced !
If you’re receiving money as a serious ill-health lump sum before you’re 75 (whereby, unfortunately you are typically expected to live less than a year), it does not count towards the LSA.
Instead, you might get it all tax-free up to a limit of £1,073,100. This is called the lump sum and death benefits allowance (LSDBA).
It will not be reduced under the following circumstances also:
- you access a defined benefit pension in one payment and all your pensions are worth less than £30,000 – called a trivial commutation lump sum
- take a pension worth £10,000 or less in one payment – called a small pot lump sum
- or you receive a lump sum less than £18,000 as part of a winding up lump sum – whereby a pension scheme is being closed down.
What happens if I go over the tax-free limit !
You’ll usually pay Income Tax on anything above your annual personal tax allowances, such as:
- more than 25% of each pension as a lump sum
- lump sums above the LSA limit of £268,275
- your pension as a regular income.
Each time you take money from your pension, you’ll be asked how much you’ve taken before from all your pensions. Your pension provider will then keep track of how much of the LSA you’ve used, at the point of accessing or crystallising.
It could be worthwhile to do some basic income tax calculators, via https://www.gov.uk/estimate-income-tax website.
What about an inherited pot !
When you die, your pension provider will usually pay death benefits to those you want to receive the money, called beneficiaries. So it’s worthwhile to complete nomination forms with each provider, in a worse case scenario. So a pension could be paid out as per your wishes.
Your beneficiaries will usually pay Income Tax on the money they receive, if:
- the death benefit is a regular income directly from your defined benefits scheme, as per the rules of the scheme and the trustees discretion. Most schemes will pay a spouse’s pension for lifetime equal to 50% of the members original benefits.
- you die after age 75.
But no Income Tax is usually paid if:
- you die before age 75 and
- the beneficiary makes a decision to accesses a DC pension, within two years of your pension scheme learning of your death. If they fail to act the beneficiary will pay then pay tax on any income received at their marginal rate.
If no money had been taken from your pension before 6 April 2024, there’s a maximum amount your beneficiaries can take as tax-free lump sums. This is called the lump sum and death benefit allowance (LSDBA).
What about inheritance tax !
At present, any money held within a pension wrapper is free from inheritance tax. Unfortunately the rules were changes in the budget announcement in October 2024.
Until April 2027, any money you have in your pension pot when you die – or any death benefits your scheme promises to pay – will not usually be counted when dealing with IHT affairs.
This is because most pension providers or trustees have the right to decide who to pay the money to, called a discretionary trust. They’ll usually choose those listed on your expression of wish form, and will be paid out as per the member’s wishes, although they will perform some checks to make sure funds go allocated to the right people.
If you can tell your pension provider exactly who your beneficiaries should be, the money is usually counted as part of your estate for Inheritance Tax.
So don’t make any drastic decisions ahead of this impending changes, but if may be part of wide estate and IHT planning. If you hold substantial assets in property or pensions, as the current IHT allowance is only £ 325,000. Anything over that amount could be liable for IHT at 40% by respective beneficiaries.
What if I accessed my pensions prior to 2024 !
If you took money from your pension before 6 April 2024, it counted towards the lifetime allowance (LTA) instead, that was then in effect.
The LTA was the maximum amount you could save into a pension without needing to pay additional tax. The limit was £1,073,100 when the LTA ended on 5 April 2024.
Any tax-free lump sums you had taken under the LTA, or before April 2006, count towards the lump sum allowance (LSA) and lump sum death benefit allowance (LSDBA).
How can I prove if I have accessed pension prior to changes in 2024 !
You can ask your provider for something called a transitional tax-free certificate before you take more money from your pension. This should be from the first provider, which has paid you to pay since 6 April 2024.
You’ll usually need to provide evidence of the actual amount of tax-free cash you took. Which could be from old pension statements or self assessments forms. If you don’t have the necessary paperwork, you should be able to download from your providers website or the admin team should provide you with copies.
You can then show the certificate to other pension providers you’d like to take money from. They’ll use the tax-free cash figure shown on the certificate, rather than assuming you’ve taken the maximum 25% already.
What should I think about before accessing my tax-free cash !
First of all, do I really need to access. Am I doing it for a specific purpose ! It could be a holiday, new car, clear the mortgage, what is known as big ticket item.
Or am I accessing because I am a selected date and my provider has written to me about accessing.
If I don’t spend the money, where will I put it. Do I have to find a new investment product which could then form part of your estate for IHT purposes.
Will those investments be subject to fees and charges, investment risk and will they perform as good as the funds it was held within the original pension account.
Do you really need the complete 25% in 1 go, you could do in stages.
If you take income after the tax-free lump sum it is then liable for income tax. It could push you into a higher tax bracket as it would be added to other earnings in the tax year.
Suppose you take more money in the early years, will it be able to support in the later years of your retirement. So use the calculators and tools on offer from your providers websites.
If you do leave your funds invested, review your portfolio on regular basis say annually. How are the fud performing, are some doing weel each year or continually losing money. Are you invested in a lifestyle or target date fund. Most people are automatically placed into a fund through tier employer, very few people pick their own funds. It’s inertia if the portfolio go up then great, if it goes down not so great. So learn to get involved and engaged with your pension.
Are you invested in the same funds to when you joined that pension scheme.
Has your attitude to risk changed as you are getting older and nearer to full retirement.
What if I take income after the tax-free lump sum !
It will then normally be taxed at source by your provider. Most people will buy an annuty or access via drawdown. So any income would then be added to nay other income you receive within that tax-year. It could even push you inti a higher tax bracket.
If you buy a lifetime annuity it’s not a problem moving forwards. But you buy a fixed term annuity of access flexibly such as drawdown (FAD) or a series of lump sums (UFPLS). You will trigger
Remember !
If you found this blog post useful and informative, please check out my other posts on pensions, savings and investing on https:moneyminted.co.uk. Along with investment books that I recommend. So you too can improve your financial and investing knowledge to reach your goals in future.
It’s not a get rich quick journey, but you will get there in the end if you create an action plan and think long term.
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