HMRC overhauls tax system after pension savers overcharged £1.3bn

05 February 2025

Pension savers who’ve faced years of over-taxation when withdrawing their retirement savings are finally seeing action. HMRC has announced plans to fix a system that has overcharged savers by £1.3 billion since 2015.

The problem began after the introduction of Pension Freedoms in April 2015, which allowed people with defined contribution (DC) pensions to withdraw their savings in flexible chunks rather than being required to buy an annuity - although annuities continue to be a popular choice for people seeking a guaranteed income. 

While the new freedoms gave savers more choice, HMRC’s tax rules didn’t keep pace. Emergency tax codes were automatically applied to withdrawals, assuming the payment would be repeated every month. This led to excessive tax deductions and forced savers to file claims to get their money back.

Over the years, more than 470,000 claims have been made, amounting to £1.37 billion in refunds. In just the past three months, HMRC repaid nearly £50 million to over 14,000 people.

Now, HMRC is taking steps to fix the issue. Starting in April, it will replace emergency tax codes with regular ones, ensuring withdrawals are taxed accurately in real time. 

This long-awaited reform is expected to ease the financial and administrative burden on pension savers, making the system fairer and more straightforward to navigate.

Tax codes to be automatically updated from April

In its latest Pension Schemes Newsletter, HMRC explained: “From April 2025 we are improving how tax code information is used for those people who are new to receiving a private pension, so they pay the right amount of tax from the outset.

“We will automatically update the tax code for customers who are on a temporary tax code and would benefit from being on a cumulative code — this means they’ll avoid an overpayment or underpayment at the end of the year.

“There is no need to contact HMRC, and once a tax code has been changed we’ll inform customers by letter or digitally if they’ve signed up for paperless in the HMRC app or online.”

Former pensions minister Steve Webb welcomed the move, saying: “For too long, hundreds of thousands of people have been overtaxed and had to jump through hoops to claim back their own money.

“The tax system is complex enough as it is, and this change should hopefully reduce the complications that pension savers face when they try to access their hard-earned cash.”

Source

HMRC announcement and response: Victory for campaigners as HMRC set to address ‘scandal’ of overtaxed pensions. Money Marketing. Accessed 03 February 2025.