A common question I get asked when speaking to clients, is how can I limit or reduce the amount of income tax payable when accessing your pension within the UK.
Your pension is probably your biggest asset after your home or residence, and we seem to spend a lifetime contributing to it ahead of retiring and accessing. But most people’s biggest complaint is why do I pay income tax on it. When I decide to access or draw from it.
Unfortunately only the 1st 25% is free from income tax. The rest will be classed as income and added to other income sources within that tax year and taxed accordingly.
It is normally at source by a pension provider on your behalf automatically.
If you are thinking of accessing a pension pot in your later years. It’s worth knowing some key points and action steps you can take to limits potential tax implications.
The way you access a private or workplace pensions is crucial. Thinking of how you access it, is an essential part of your retirement planning process.
So when you do decide your options, it’s only right that you can boost your finances. That help bring your retirement plans into life and make it work effectively for you.
So how much tax free cash can I take !
At present, as of the 2026 tax year, you can access up to £ 268,275 as tax-free cash or Pension Commencement lump sum (PCLS) across all schemes that you have.
Before this cap was introduced on 6th April 2024, there was something called the Lifetime Allowance (LTA), which allowed you to build up a pot value of £ 1,073,100.
In previous years any income above that amount was taxed accordingly. But this has since been abolished by the labour government and replaced with the following 2 key points.
* Lump Sum Allowance (LSA): Caps the total amount of tax-free cash you can take from all your pensions during your lifetime at £268,275.
* Lump Sum and Death Benefit Allowance (LSDBA): Caps the total amount of tax-free lump sums that can be paid to you and your beneficiaries (if you die before age 75) at £1,073,100
Any lump sum amounts withdrawn above these limits are subject to income tax at your marginal rate.
So how are my pensions taxed ?
Your pension income is treated the same was as any income you receive from employment.
So it is taxed as earned income. This is normally taxed at source by your pension provider on your behalf.
Their is no need to complete self-assessment forms or get an accountant involved (unless you have complex affairs). It is done automatically on your behalf and your provider will notify HMRC with details on income paid out.
You can choose to access your pot in several forms, so you don’t pay any more than you may have to.
The amount of tax tax payable or applicable, will depend upon your circumstances and what other sources of income you have during that respective tax year.
What income tax bands are applicable !
During each tax tax year everybody has personal allowances they can use to their effect being:
0% rate – 0 to £ 12,570 per tax year
20% rate (Basic rate) – £ 12,571 to £ 50,270
40% rate (Higher rate) – £ 50,271 to £ 125,140
45% rate (additional rate) – income over £ 125,140
These rates do sometimes change at budget time, but are presently frozen until 6th April 2031.
There is currently no way to avoid paying income tax. However, if you think carefully and do some basic calculations you can stay within a specific tax bracket.
For example, someone may limit the amount of pension income drawn so they would rather stay at 20% (basic rate) than going into higher tax band such as 40%.
But remember its only higher rate of income tax above the threshold, not on the whole amount of income received.
Simple example: So if you have employment income of £ 40K and pension income of £ 20K, you pay 20% income tax up to annual income of £ 50,270. the 40% income tax of the amount above the threshold being £ 9,730.
What about my state pension !
At present your state pension is non-taxable, but it would be added to other income received during the tax year. That 2nd source income, if any would then be taxed appropriately.
From April 2026, the weekly state pension amount is £ 241.30, so roughly £ 12,547.60 each year. This is currently below the tax free personal allowance.
This could well change next year in April 2027 at the start of the tax year, if increase is given through the triple lock and the personal tax allowances remain frozen.
How do I access my pot in future !
When you are ready to access your pot, currently from age 55. You have the following options:
Guaranteed income (Annuity)
Whereby you can take up to 25% tax free upfront, You then receive a guaranteed income for lifetime or a fixed term. It is based on the size of the pot, age, health and lifestyle and market conditions.
Any income you receive each month, quarterly or annually is taxed at source by the pension provider.
An annuity for life, is fixed and cannot be changed. But it provides security and no future investment risk.
Flexible accessible income (FAD)
Again you can access up to 25% tax free upfront or in stages known as partial drawdown. the rest of the pot is invested and subject to investment risk, fees and charges.
But you access the pot on your terms until it could run out.
Again taxed at source, but by limiting the ant of income you withdraw.
You could stay below certain thresholds and stay within a specific income tax bracket.
Flexi Access Drawdown, could prove to very tax efficient. As you could draw more encore in the earlier years. Before other pensions commence such as final salary (DB pensions) or the state pension at state pension age.
But be aware if you take more out in the earlier years, it could run out much quicker.
However, you have control and flexibility over managing the pot. You ideally are using the pot on your terms.
A series of lump sums (UFPLS)
By accessing the pot this way, you will receive 25% tax-free on each withdraw and 75% is then subject to income tax.
You may do this method, to leave more invested within the pot and you may not want 25% tax free in one go upfront.
So think of it as a piece of cake you are slicing in smaller bitesize chunks.
Simple example: if you withdraw £ 4,000, on each lump sum £ 1000 (25% is tax-free) and £ 3,000 (75% is taxable income). This again is added to other income received in the tax year. But could prove very beneficial if you wish to stay below a certain tax bracket threshold.
Be aware: If you do take some ad-hoc income or lump sums on a flexible basis. It may be subject to emergency tax on your initial withdrawal.
This may push you into a higher bracket on that 1st withdrawal. You will get the tax back at some stage, so does your provider claim on your behalf at the end of the tax year.
Or do you claim via gov.uk by completing the following forms. They reckon you will get the tax back in around 30 days.
P50Z – If you have taken pension flexible payment and received no other income
P53Z – If you have accessed flexible pension using the complete pot and receive no other income.
P55 – If you have accessed flexible income and not used up all the fund value. You only take one payment and don’t intend to make further withdrawals from the same scheme.
What about other savings and investments !
Savings account: if you are a basic rate taxpayer, you are allowed to earn up to £ 1,000 interest each tax year, without it be subject t0 income tax.
Higher rate taxpayers can earn up to £ 500 each tax year before paying income tax.
If you are going to be subject to investment limits, you should consider putting funds or savings into tax free wrapper such as ISA’s as part of your overall tax planning strategy.
Remember: If you found this blog post useful, please feel free to check to my other posts on savings, pensions, investing and recommended investing books on http://www.moneyminted.co.uk
So you can reach your financial goals and aims in future.
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