Webb calls for tax overhaul on pension withdrawals

Former pensions minister Steve Webb has called on the government to end its ‘tax first, ask questions later’ approach to taxing pension withdrawals under pension freedom legislation.

In Royal London’s submission to the Work and Pensions Committee inquiry on pension freedoms, director of policy Webb (pictured) said HM Revenue and Customs (HMRC) should change the way it taxes lump sum withdrawals, taking only the standard rate tax and collecting any extra tax due through the end-of-year tax return process.

He said the change would largely eliminate over-payments and avoid the need to process thousands of refund claims.

Under current rules, when individuals seek to withdraw a lump sum from their pension they are usually taxed on an ‘emergency’ tax code which results in over-payment.

In the first three months of this financial year, HMRC had to pay out more than 10,000 refunds worth more than £26m.

Webb said if refunds continue at this rate, it could mean an over-taxation of more than £100m per year.

He said the way pension withdrawals are taxed was “little short of a scandal.

“It cannot be right that HMRC can knowingly overtax people to the tune of £100m per year and expect thousands of individuals to know which form to fill in to get their money back.

“Too often, HMRC’s approach is to tax first and ask questions later, and this must stop,” he said.

Figures from HMRC showed more than £10bn has been accessed flexibly since the introduction of the freedoms in 2015.

‘Enhanced access to advice’

In its submission, Royal London said the reforms were still a ‘work in progress’ and identified several other areas where more could be done, including:

  • Earlier contact with pension savers rather than a ‘wake-up’ pack six months before retirement;
  • Enhanced access to advice including more support for employers who offer workplace advice and a piloting of vouchers for financial advice;
  • More powers to pension schemes and providers to block pension transfers where they have concerned about the risk of scams;
  • A firm commitment by the government that it will be legislating to require all pension schemes and pension providers to supply data to the proposed pension dashboard.