How Much Tax Will You Pay On Your Pension Drawdown

Pension drawdown is an option that allows you to take some money out of a defined contribution pension while the rest stays invested.

You can start taking money out of your pension from the age of 55. (This is rising to 57 from 6 April 2028).

Pension drawdown is sometimes called “income drawdown” or “flexi-access drawdown”.

Pensions can be complex so it’s important to understand the pension tax rules and seek specialist support to get tailored advice suited to your circumstances.

What is a defined contribution pension?

A defined contribution pension is a type of workplace pension built up over time by you or your employer.

The amount you’ll have in your pension depends on:

• how much was paid into the pension
• how the pension fund performed
• any fees you’ll need to pay

Generally speaking you can take 25% of any pension pot as a tax-free lump sum. The remaining 75% will usually be taxed like income you get from working.

That means that the amount of tax you pay will depend on the tax band you’re in. And your income tax band will depend on your annual income that exceeds your personal allowance. This income can include earnings, pension income, savings interest and investment returns.

Under the pension freedom rules, you can withdraw the first 25% of your pension tax-free. However, sometimes when you make the initial withdrawal your pension provider will apply an emergency tax code which could result in you overpaying tax. You can claim back any overpaid tax by contacting HMRC.

• How much money do you need?

Withdrawing too much money too quickly could increase your tax bill and mean your money runs out more quickly.

You’ll also lose the opportunity to benefit from compounding or investment growth as your money will no longer be invested with the rest of your pension pot.

• Where will you put the money?

If you don’t need to use all of the money straight away, it’s important to put it in a tax-efficient account where it can grow before you spend it.

• How will your other income affect the money you drawdown?

Once you’ve used your 25% tax free allowance, any further drawdown from your pension will count towards your taxable income.

It’s important to plan your withdrawals as carefully as possible to know exactly how much tax you’ll likely need to pay.

• Do you still want to keep contributing to your pension?

If you still want to pay into your pension after you’ve taken pension income, you’ll only be able to pay up to £10,000 each tax year.

This is known as your Money Purchase Annual Allowance (MPAA).