Pension warning as thousands of retirees risk losing £25,000 in tax-free cash

This uncertainty is prompting some savers to consider withdrawing their tax-free cash prematurely.

In total, £18.1 billion was accessed across the 2024-25 financial year – a 60 per cent jump on the £11.3 billion taken the year before. The number of savers tapping into their lump sum also rose sharply, up 29 per cent compared with the previous year.

The surge comes amid growing speculation that the Government could shake up pension rules in the Autumn Budget, with concerns that tax relief may be cut or the tax-free lump sum restricted in future.

AJ Bell has highlighted that individuals with £400,000 in pension savings could receive £100,000 tax-free currently. However, if they wait for their pot to reach £500,000 through market growth and continued contributions, they could secure an additional £25,000 without tax.

The firm emphasises that pension withdrawal decisions are irreversible and should be based on genuine retirement income requirements rather than attempts to anticipate government policy changes.

Rachel Vahey, head of public policy at AJ Bell, warned: “Those people who have built up larger pension pots must feel somewhat as if they are caught in the headlights.

“But they should not be making important decisions about their future retirement wealth by trying to second guess a chancellor’s Budget speech.”

She stressed that accessing pension funds represents a permanent commitment. “Whether and when to take tax-free cash from your pension is an important long-term decision,” Ms Vahey said.

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The financial services firm has urged the government to implement a Pension Tax Lock, guaranteeing no alterations to pension tax-free cash or contribution relief for the remainder of this Parliament.

Ms Vahey added that individuals considering withdrawals should understand “it is not reversible” and evaluate all consequences before proceeding.

An increasing amount of UK pension savers are rushing to cash in their pots, with a record £10.4billion withdrawn tax-free in just six months to the end of March, new figures show.

More than 111,000 people took advantage of their 25 per cent pension commencement lump sum allowance during the period, according to data from the Financial Conduct Authority.

Keeping funds within a pension typically offers the most advantageous outcome, according to the analysis. Money retained in pension schemes continues to accumulate without taxation, potentially resulting in larger tax-free withdrawals later.

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Ms Vahey explained: “Leaving money in your pension until you need it is normally the best course of action. It can continue to grow tax free, meaning you should be able to take a bigger tax-free cash lump sum.”

Withdrawing funds prematurely introduces various tax liabilities. Interest earned on savings accounts may exceed personal allowances, triggering taxation.

Investment gains outside pension wrappers could attract capital gains and dividend taxes. Given the substantial sums involved in pension lump sums, transferring these amounts into tax-efficient vehicles like ISAs would require multiple annual contributions.

Individuals aged 55 or above can withdraw up to 25 per cent of their pension savings as a tax-free lump sum, formally termed a pension commencement lump sum. From 2028, this minimum age increases to 57.

The remaining 75 per cent can be transferred into drawdown for taxable income withdrawals, used to purchase an annuity providing guaranteed lifetime income, or taken entirely as cash.

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All these options incur income tax, with large withdrawals potentially pushing recipients into higher tax brackets.

A lifetime cap of £268,275 applies to tax-free withdrawals across all pensions, known as the lump sum allowance. Each withdrawal reduces this allowance accordingly.

The maximum tax-free amount available equals either 25% of the individual pension pot or the remaining lifetime allowance, whichever figure is lower.