⚠️ We are working hard to ensure this guidance is up to date. However, you should bear in mind that things may change as the government respond to the ongoing situation.

Coronavirus: Taking money from your pension

Updated on 19 May 2021

The coronavirus pandemic is continuing to have far-reaching financial impacts on individuals and businesses across the world.

If you are considering drawing on pensions due to taking retirement or as a short term stop-gap, you need to understand the tax consequences of your decisions. Note, however, that we cannot give financial advice and our guidance below is intended to make you aware of the issues you need to consider.

This page also considers some of the knock-on effects for welfare benefits of drawing on pension funds.  

Illustration of an elderly couple wearing masks holding a tablet device

Using your pension for cash flow

Q: I’m thinking of using some of my pension fund to help cash flow at the moment. Is that a good idea?

A: We cannot give financial advice, but you can get free guidance from Pension Wise. You should also consider taking advice from an Independent Financial Adviser, although you will probably have to pay for their advice.

You do need to consider your whole financial situation, both now and in the future, before taking action.

We would caution you, though, that there can be tax and welfare benefits consequences to accessing your pension funds and you must take these into account when deciding if you want to withdraw money from your pension.

You might also be able to access other means of financial support to help you through difficult times, without resorting to drawing on pension savings. Read the rest of our coronavirus guidance to understand more about your other options.

Accessing pension funds early

Q: I am not yet 55 but a company has told me they can let me access my funds early. Is that true?

A: Assuming you are not in a special category, this is not true and is probably a scam. You could lose your pension savings and end up with a large tax bill of up to 55% of the sum withdrawn. See our pension jargon buster A to Z, under the word ‘scam’ for more information on how to watch out for pensions fraud. The Financial Conduct Authority has also published some extra guidance about scam activity relating to the coronavirus.

If you are under age 55 but seriously ill, you may be able to access your pension early or, if you have less than a year to live, you may be able to access all of your pension fund tax free. You can read about these possibilities on GOV.UK. There are stringent conditions to be satisfied in either case.

In addition, some pension plans that were in place before 6 April 2006 allow early retirement for some professions like elite sportspeople, but very few people will have such plans.

Tax consequences when drawing a pension from age 55

Q: I am 55 years old or over and have decided to draw my pension. What are the tax consequences?

A: Most pension schemes, except the state pension, allow 25% of the fund to be drawn tax free, while any extra payment will be subject to income tax.

Any taxable element will be taxed using the Pay As You Earn (PAYE) system, which might mean that too much tax is taken off initially and that you will have to claim a repayment from HMRC. More about this is explained in our pensions flexibility guidance.

Bear in mind that the extra taxable income may push you into higher tax rates and, potentially, cause you to incur the high income child benefit charge (see below).

Drawing a pension and the high income child benefit charge

Q: How can drawing my pension lead to a high income child benefit charge?

A: Child benefit itself is not means tested. This means you can claim it whatever your level of income. Also, it is not taxable income. This means it is not taken into account when working out your ordinary income tax bill.

But you can effectively lose all or part of your child benefit if either you or your partner has ‘adjusted net income’ over £50,000 a year. This is done either by the partner with the higher income paying a tax charge through a Self Assessment tax return – known as the high income child benefit charge; or by deciding not to receive payments of child benefit to avoid the tax charge. Note that the charge can only be avoided altogether if you opt not to receive child benefit payments for the full tax year in which the charge applies.

You may not usually have income anywhere near £50,000 a year. But that could change if you take a pension lump sum.

Example: Peter and his family

Peter, who lives in England, is made redundant in early October 2021. His total taxable earned income for the 2021/22 tax year is £11,000. He is 55 and has built up a pension fund of £70,000. His wife, Sue, is 42 and does not work. The couple have two young children, aged 3 and 5. Sue claims child benefit totalling £35.15 a week (£1,827.80 for the 2021/22 year).

If Peter were to cash in the full pension fund at once, he would get 25% of the £70,000 tax-free – £17,500. He would have to pay tax on the rest – £52,500. Peter also has to pay a high income child benefit charge based upon total income of £63,500 (his £11,000 earnings plus the taxable part of the lump sum, £52,500). This means Peter has to pay a high income child benefit charge of the full amount Sue claims – i.e. £1,827.80, assuming she does not choose to stop receiving it for the rest of the tax year.

Also, Peter and Sue would lose the ability to claim the ‘marriage allowance’ for 2021/22 as Peter would become liable to tax at a rate higher than UK basic rate. This costs them a further £252 in tax.

Added to that, Peter will have to register for Self Assessment and fill in a tax return so that he can pay the high income child benefit charge to HMRC.

Finally, as discussed below, Peter and Sue are also likely to lose all their tax credits.

All of these factors, together with a full evaluation of your personal circumstances and financial situation, need to be taken into account before taking a final decision on accessing pension funds.

Pensions and welfare benefits

Q: I am 55 years old or over and have decided to draw my pension. Will this affect any benefits my family get?

A: Possibly.

One-off or irregular sums taken from pensions could be treated as ‘capital’ for the purposes of means-tested state benefits, but regular amounts are likely to be treated as income.

Either capital or income treatment could have an immediate effect on your entitlement to state benefits, depending on your overall circumstances, and ‘local’ benefits like council tax reduction could also be affected.

As noted above, child benefit can also effectively be reduced or lost where a large pension withdrawal creates a high-income child benefit tax charge.

Our pensions flexibility guidance explains more.

Tax credits and drawing a pension

Q: I am 55 years old or over and have decided to draw my pension. Will this affect the tax credits my family get?

A: If you claim tax credits, taking money out of a pension could cost you dearly. This is because taxable income from pensions is also income for the purposes of tax credits.

You could end up with a tax credits ‘overpayment’ – this means that you may have been paid too much and have to pay it back. It could also mean you end up with less tax credits in the following year as well.

You do not actually have to tell the Tax Credit Office about changes to your income until you renew your claim at the end of the tax year, but you might wish to tell them sooner about money taken from a pension in order to reduce the amount of any overpayment.

One mistake that we have seen tax credits claimants making is reporting the whole of their lump sum as tax credits income. As mentioned above, it is only the taxable part that is income for tax credits; any tax-free lump sum does not have to be included.

Tax issues when drawing a state pension

Q: I want to start drawing my state pension now. What are the tax issues?

A: You can start drawing the state pension as long as you have reached state pension age.

The state pension is taxable, but the Department for Work and Pensions (DWP) do not operate PAYE on it. Instead, the tax due on the weekly state pension is normally collected through an adjustment to your Notice of Coding with any extra tax due being collected after the end of the tax year by a Simple Assessment or a form P800.

However, if you are required to complete a Self Assessment tax return, any tax due will be collected along with the rest of your tax liability – normally by 31 January following the end of the tax year. In some circumstances it might be collected earlier if you are required to make payments on account.

Claiming a deferred state pension lump sum

Q: I am going to claim a deferred state pension lump sum. What are the tax issues?

A: State pension lump sums may only be claimed where you reached state pension age before 6 April 2016 and chose to put off receiving your state pension.

Such state pension lump sums are taxed in a special way – at the taxpayer’s highest main tax rate. It is crucial that this main tax rate is correctly identified. All of the lump sum is taxable.

This can be a problem when people think they are a non-taxpayer when in fact they are a taxpayer, but effectively have no tax to pay on their other income due to the way in which some so-called tax ‘allowances’ work.

Because the tax charge that might arise on your state pension lump sum can be very substantial we strongly recommend you read our news article: Claiming a state pension lump sum? Check your tax before you act.

⚠️ Important note: you can ask the DWP to pay the lump sum to you at the start of the next tax year. Depending on your situation, this could mean you might pay less tax on it (for example, if your taxable income is likely to be lower in that later year). However, as explained in our main guidance note, you must tell the DWP within one month of claiming the deferred state pension that you want the payment to be delayed.

Also bear in mind that this income could also affect your entitlement to other benefits.

Future pension contributions

Q: If I take some pension benefits now, how will that affect any future pension contributions I make?

A:  As long as you are under the age of 75, are UK resident and have relevant earnings (or pay in less than £3,600 a year gross), you can still contribute to a pension after taking money purchase pension benefits.

However, tax relief is limited to contributions of £4,000 a year gross where you have taken any taxable money purchase pension benefits under the pensions flexibility rules.

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