The 1 key reason your clients’ Income Tax bill could increase in retirement

As your clients enter the decade leading up to their retirement, they may be starting to consider what their income will look like when they stop working.

Indeed, there’s plenty to think about when planning a retirement, and one important factor for your clients to look at carefully is tax – particularly Income Tax.

While they’re working, your clients may pay Income Tax automatically from their salary, and could fill in a self-assessment form too if they’re an additional-rate taxpayer or business owner.

In retirement, though, things might change. They may draw variable amounts of income over the years, and could lose track of how much Income Tax they are attracting as a result.

If your clients are concerned about their potential Income Tax bill in retirement, financial planning can help. Here is the one key way your clients’ Income Tax bill could increase when they stop work, and how our services can offer actionable solutions.

The removal of the Lifetime Allowance tax charge could improve your clients’ pension savings now – but it may mean they draw a larger income in retirement

There have been multiple changes to pension legislation in 2023 that are set to last for at least the coming few years.

One seminal move, announced by Jeremy Hunt in the spring Budget, is the removal of the Lifetime Allowance (LTA) tax charge. The LTA previously stood at £1,073,100, and limited how much pension wealth a person could hold without having an additional tax charge applied upon withdrawal.

The removal of the Lifetime Allowance tax charge could present huge pension saving opportunities in the present

Today, Hunt’s abolition of the LTA tax charge could be welcome news to your clients.

While they might previously have reduced or stopped private pension contributions for fear of pushing their pension over the LTA threshold, they may now be able to invest more without worrying about an additional bill later.

In fact, according to a survey of higher-rate taxpayers published by Professional Adviser, 23% of respondents have delayed, or plan to delay, their retirement to make the most of this new legislation. What’s more, participants who upped their pension contributions in light of the news said they’re putting an average of £650 a month more into their pension.

Drawing from a larger pension pot in retirement may require careful maintenance

You might be wondering: “what does all this have to do with Income Tax in retirement?”

Fast forward 10 years, and your client has been saving more into their pension than ever before. Now their pension is well past the previous LTA of £1,073,100, and they’re on track to have a very comfortable retirement.

And, since the old LTA tax charge (which could have been up to 55% in some cases) is no longer applied, your client may be able to take a larger retirement income than they’d planned.

Crucially, with a large pension pot at their disposal, your client’s annual drawdown could be high, potentially pushing them over the limit into higher- or additional-rate Income Tax.

This could present two significant downsides: a substantial portion of your clients’ retirement income may go straight back to HMRC, and, as a result, they could deplete their retirement savings more quickly than they’d planned.

Remember: your clients can take 25% of their pension pot tax-free, but the remaining 75% is taxed at their marginal rate, whether they take the whole pension as a lump sum or draw a flexible income. If they choose flexi-access, each withdrawal may benefit from the 25% tax-free amount, and the remaining 75% will usually form part of their Income Tax bill in that year.

As such, managing their retirement income with the help of a professional is paramount now that the LTA tax charge is gone. Your clients could sadly be lulled into a false sense of security when building up substantial pension wealth, when, in fact, there are still important Income Tax considerations to be made.

2 ways a financial planner can help your clients mitigate their Income Tax bill in retirement

If your clients are on track to make substantial pension savings in the run-up to retirement, it’s important that they manage the wealth they’ve accumulated carefully.

Here are two ways we can help your clients maintain a sustainable retirement income while mitigating Income Tax where possible.

1. Offering a bespoke review of your clients’ wealth circumstances

Although the same rules apply to everyone, each person’s wealth circumstances are unique to them. How your client earns, the amount they earn, and how much they’ve already put towards their retirement will all play a part in determining their tax situation in retirement.

That’s where bespoke financial planning comes in. We can offer a full review of your client’s finances, using world-class software to combine hard data with their most treasured dreams and goals.

Once we’ve established the core elements of your client’s financial plan, we can then begin to place their tax liability under the microscope. If possible, we’ll help to find and execute tax-efficient solutions to help your clients make the most of what they have.

2. Reminding your clients to see the big picture

It’s easy to become bogged down in the nitty gritty of retirement planning, and in doing so, your clients might forget to look up and see the big picture.

They likely have important personal goals they want to accomplish once their career is over, and as financial planners, it’s our job to help them get there.

As such, our role is to take care of the “boring” details and let your clients enjoy their retirement, imbued with the peace of mind they need to thrive.

Get in touch

If your clients are on the road to retirement, they could benefit from bespoke financial planning. To put them in touch with an expert they can trust, email info@wkmwealth.co.uk or call 0116 403 0138.

Please note

This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.

All contents are based on our understanding of HMRC legislation, which is subject to change.

A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future results.

The tax implications of pension withdrawals will be based on your individual circumstances. Thresholds, percentage rates and tax legislation may change in subsequent Finance Acts.