Some canny pension holders are getting more than just 25% tax free cash from their pension pots.
Pensions usually have a 25% tax free element and the remainder of the fund is liable to tax. However by reinvesting some of this taxable money back into a pension, any tax you pay is immediately reimbursed, and goes towards creating a second tax free cash lump sum that you can take at some point in the future (*).
Any contributions that you make to a personal pension will receive tax relief at your marginal rate. There are two upper limits on how much you can pay into any further pension plan whilst receiving tax relief. A maximum annual allowance of £40,000 may be available if you haven’t accessed any pension yet, but as soon as you take any taxable income from a pension using the pension freedoms, the amount they can save in a money purchase pension will be slashed from £40,000 to £4,000 from next April. These limits are known as the money purchase annual allowance.
The aim of this change by the government, announced in the recent Autumn Statement, is to minimise the recycling of pension savings.
The new Pension Freedoms introduced in April 2015 allowed customers to transfer their pensions into a flexible drawdown contract to release their tax free cash and an income. This reduction and restriction in how much you can now contribute to a pension seems to undermine the flexibility offered to customers who can draw money from their pension when they need to.
Despite these restrictions, it should be remembered that you can still reinvest £4,000 per year from your pension, back into a second pension. Over a 10 year period, this would see you eligible for a further £10,000 tax free cash (**).
If you would like to know about income recycling and creating a second tax free lump sum, then please get in touch. You can visit our website www.flexi-access-drawdown.co.uk or call us on 020 33 55 4827.
(*) This is a very simple explanation of a process some customers use. Please make sure you fully understand all of the issues before you decide to recycle income.
(**) Investment performance could result in the actual amount you could take as tax free cash after 10 years being higher or lower than £10,000.