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Making the most of your tax allowances in retirement
It would be nice to think that once you’ve waved goodbye to work, you can do the same to Income Tax. Sadly, that’s not the case.
Typically, Income Tax is applied to all your pension income, including your State Pension. We’ll go into more about that later.
Even if it doesn’t appear that Income Tax is being applied to your State Pension, it’s often collected by taking money from any company, workplace or personal pension payments you might receive.
Which begs the question, what can you do to make the most of your tax allowances in retirement?
First, let’s look at Income Tax.
What is Income Tax?
Income Tax is a tax paid on your earnings. At the time of writing, February 2019, your tax-free allowance is typically £11,850 a year*.
This is the case whether you are retired or still in work. There are no dispensations for old age or status.
Any taxable income you earn over the £11,850 threshold will usually be subject to the basic rate tax of 20%. That’s until your income reaches £46,350 a year.
After that, you’ll start paying the higher rate tax of 40%.
If your annual taxable income is more than £100,000, your tax-free personal allowance drops by £1 for every £2 you earn over that figure.
That means, if you earn £123,700 or more in 12 months, you won’t receive a tax-free allowance at all.
And if your taxable income reaches £150,000, you’ll face a 45% tax rate.
Will my pension be taxed?
Yes. As said above, retirees face the same Income Tax thresholds as everyone else. But with a pension, there are some exemptions.
Since 2015, you have been able to take as much money out of your pension pot as you wish.
The first 25% of that is typically tax-free*2. But after that, your pension usually faces the same Income Tax rules as any other taxable earnings.
This also applies if you have a defined benefit, final salary or career average pension.
Are savings tax-free?
Since 2016, the Personal Savings Allowance has determined the amount of income you can receive tax-free from savings interest.
As things stand, if you pay the basic rate tax of 20%, you can earn £1,000 a year through savings interest without facing any tax. If you fall into the higher tax bracket, your limit is £500*2.
While it used to be the case that your bank or building society would collect basic rate tax on your interest, HMRC now retrieve it through your PAYE code. If you usually declare savings income through a self-assessment tax return, however, you should continue to do so.
And something else that hasn’t changed is interest from tax-efficient savings accounts. Cash ISAs, for example, are still Income Tax exempt.
Overpaying savings tax
If you think you have overpaid on savings tax in a previous year, you can submit an R40 form either online or by post.
National Insurance in retirement
And for a final piece of good news, if you continue to work beyond State Pension age you no longer have to pay National Insurance.
* https://www.moneyobserver.com/news/new-tax-year-201819-tax-and-personal-allowance-changes
*2 https://www.moneyadviceservice.org.uk/en/articles/tax-and-benefits-when-youre-retired
Typically, Income Tax is applied to all your pension income, including your State Pension. We’ll go into more about that later.
Even if it doesn’t appear that Income Tax is being applied to your State Pension, it’s often collected by taking money from any company, workplace or personal pension payments you might receive.
Which begs the question, what can you do to make the most of your tax allowances in retirement?
First, let’s look at Income Tax.
What is Income Tax?
Income Tax is a tax paid on your earnings. At the time of writing, February 2019, your tax-free allowance is typically £11,850 a year*.
This is the case whether you are retired or still in work. There are no dispensations for old age or status.
Any taxable income you earn over the £11,850 threshold will usually be subject to the basic rate tax of 20%. That’s until your income reaches £46,350 a year.
After that, you’ll start paying the higher rate tax of 40%.
If your annual taxable income is more than £100,000, your tax-free personal allowance drops by £1 for every £2 you earn over that figure.
That means, if you earn £123,700 or more in 12 months, you won’t receive a tax-free allowance at all.
And if your taxable income reaches £150,000, you’ll face a 45% tax rate.
Will my pension be taxed?
Yes. As said above, retirees face the same Income Tax thresholds as everyone else. But with a pension, there are some exemptions.
Since 2015, you have been able to take as much money out of your pension pot as you wish.
The first 25% of that is typically tax-free*2. But after that, your pension usually faces the same Income Tax rules as any other taxable earnings.
This also applies if you have a defined benefit, final salary or career average pension.
Are savings tax-free?
Since 2016, the Personal Savings Allowance has determined the amount of income you can receive tax-free from savings interest.
As things stand, if you pay the basic rate tax of 20%, you can earn £1,000 a year through savings interest without facing any tax. If you fall into the higher tax bracket, your limit is £500*2.
While it used to be the case that your bank or building society would collect basic rate tax on your interest, HMRC now retrieve it through your PAYE code. If you usually declare savings income through a self-assessment tax return, however, you should continue to do so.
And something else that hasn’t changed is interest from tax-efficient savings accounts. Cash ISAs, for example, are still Income Tax exempt.
Overpaying savings tax
If you think you have overpaid on savings tax in a previous year, you can submit an R40 form either online or by post.
National Insurance in retirement
And for a final piece of good news, if you continue to work beyond State Pension age you no longer have to pay National Insurance.
* https://www.moneyobserver.com/news/new-tax-year-201819-tax-and-personal-allowance-changes
*2 https://www.moneyadviceservice.org.uk/en/articles/tax-and-benefits-when-youre-retired
Page last updated: Monday 18 March 2019