HMRC pays back over £900m in overpaid tax on pension withdrawals

New figures published this morning by HMRC reveal that it has now had to pay back more than £900m in overpaid income tax to people who have made ‘flexible’ withdrawals from their pensions. This is the cumulative figure since the introduction of Pension Freedoms in 2015.

Under current HMRC practice, when an individual first takes a lump sum from a Defined Contribution pension, tax is deducted at source. But instead of being deducted at the individual’s normal income tax rate, an ‘emergency’ tax rate is used. This is supposedly in case the individual were to make multiple withdrawals over the year which collectively took them into higher tax bands. Individuals then have to fill in one of three different forms to claim back the overpaid tax.

In the last three months, the new figures show that nearly 10,000 people filled in such forms and were refunded £33m. But adding together all of the quarterly figures since 2015 shows that the total refunded now stands at £925m. This is in respect of 270,000 forms, though it is possible that some individuals may have filled in more than one form.

However, consultants LCP believe that the £925m is "likely to be an understatement of the full scale of the problem". Some people who do not fill in a claim form (or do not know they have to do so) may only get a refund when they eventually fill in a tax return possibly over a year later. No figures are available for the amounts refunded through this route, but it is likely that the total amount of overpayment will be well over £1 billion since the system began.

Steve Webb, former pensions minister and partner at LCP, said: “It remains a quiet scandal that tens of thousands of people every year have to fill in forms to get back tax from HMRC which they should never have had to pay in the first place. It may be convenient for HMRC to overtax people and then force them to fill in forms to get their money back, but it is hardly putting the customer first. A much simpler system would be for tax to be deducted at the basic rate with adjustments for those who may pay tax at a different rate, including through the annual tax return process. It is time for this scandal to end.”