Concerns over the potential scrapping of the 25% tax-free pension withdrawal allowance may be misplaced, according to one expert, who has highlighted alternative strategies for retirees to avoid the tax hit on their nest eggs.
As the new Labour government begins to implement the financial reforms promised in their manifesto, many Britons are anxious about how these changes will affect their finances, especially during the ongoing cost of living crisis. Pensioners and those nearing retirement are particularly worried amid speculation that the cherished tax-free pension allowance could be axed.
Under current rules, individuals can take out 25% of their private pension pot tax-free, up to a limit of £268,275 in most cases. Beyond this threshold, pension withdrawals are taxed like any other income.
These concerns prompted a reader to seek advice from Charlene Young in her Telegraph column, debating whether to move their modest £150,000 pension overseas or look for another withdrawal method to avoid being “impoverished” if the tax-free benefit is removed.
AJ Bell’s pension specialist, Charlene Young, offered a reassuring perspective, advising readers not to succumb to panic. She commented: “Pension rumours inevitably reignite with a change in government, and the fact that the new Chancellor wants to fill a large hole in public finances is fuelling concerns.”
Charlene asserts that while predictions about Labour’s potential changes to pensions or tax are uncertain, she believes there is a “very little chance” they will eliminate the tax-free allowance as such a move would undoubtedly “undermine faith” people hold towards their private pensions.
In light of this, Charlene does not advise taking any drastic measures at present, such as drawing down a pension early or transferring it overseas. Instead, she shares alternative strategies to make your pension as tax-efficient as possible.
She underlined that savers have three distinct methods for withdrawing their pension pots upon retirement. The first is through drawdown, which involves accessing the 25% lump sum and preserving the remainder of your pension investment until it is needed.
Additionally, you can opt to take the 25% tax-free allowance each time you undertake a withdrawal.
The second option involves an annuity, entailing a tax-free lump sum, with the remainder of the pension pot being “exchanged for a guaranteed income for life from an insurance company”. The precise sum received depends on factors such as age, lifestyle choices and options selected at the outset.
However, Charlene noted a crucial point: “It’s important you shop around, both to ensure you get the best value for your needs and because once your annuity is set up, you cannot usually make any changes.”
Charlene elaborated on the third option, uncrystallised funds pension lump sums: “These payments are one lump sum where 25pc of the value is tax-free, and the remaining 75pc taxable as income. Again, you can do this in stages if you don’t want to access all your tax-free cash in one go.”
