Do you or your partner claim Child Benefit? Are either or both of you aged 55 or over and considering taking cash out of your pensions? Then read on – you could face a hefty tax bill, lose your tax credits and lose your Child Benefit.
Since 6 April 2015, taking cash from some pension savings has become easier. The increased flexibility may be welcome, but there are pitfalls. One such trap yet to be covered in the media is the loss of some or all of Child Benefit if taking pensions cash tips taxable income over £50,000.
We show below how someone cashing in a £50,000 pension pot could be left with just £32,633 – less than two-thirds of what they took out.
What is the danger?
Many people may not yet have taken advantage of pensions flexibility. But those who do so need to consider their position carefully and take advice if needed. Here we highlight particular issues for Child Benefit claimants.
Child Benefit itself is not means-tested. This means you can claim it whatever your level of income. Also, it is not taxable income. This means it is not taken into account when working out your ordinary income tax bill.
But you can effectively lose all or part of your Child Benefit if either you or your partner has taxable income over £50,000 a year. This is done either by the higher earning partner paying a tax charge through a Self Assessment tax return – known as the ‘high income child benefit charge’; or by deciding not to receive payments of child benefit to avoid the tax charge.
You may not usually have income anywhere near £50,000 a year. But that could change if you take a pension lump sum.
Example – Peter and his family
Peter earns £22,000 a year. He is 55 and has built up a pension fund of £50,000. His wife, Sue, is 42 and does not work. The couple have two young children, aged 3 and 5. Sue claims Child Benefit totalling £34.40 a week (£1,823.20 for the 2015/16 year). Peter wants to cash in his pension to pay off his £47,000 mortgage.
If Peter takes the full pension fund at once, he gets 25% of the £50,000 tax-free – £12,500. He would have to pay tax on the rest – £37,500. The income tax on this works out to £10,923.
Also, Peter and Sue lose the ability to claim the ‘marriage allowance’ for 2015/16. This costs them a further £212 in tax.
As the taxable part of the pension also counts as tax credits income, they lose all of their tax credits for the 2015/16 year, costing them around £4,500.
Finally, Peter has to pay a high income child benefit charge based upon total income of £59,500. This works out to additional tax of £1,732.
A total cost in tax and lost benefit of £17,367
This means that of the total £50,000 pot, Peter will have just £32,633 left. He will not have met his aim of paying off his £47,000 mortgage!
Added to that, Peter will have to register for Self Assessment and fill in a tax return so that he can pay the high income child benefit charge to HMRC.
We cannot give specific advice, but when considering the tax and benefits consequences of a pensions decision, you should take into account:
• Your overall family circumstances
• Timing of a decision
• Reporting changes –
For more advice visit the Government’s Pension Wise website. From there, you can sign up for a free appointment. You may still need further specialist advice.
This article has been provided by The Low Income Tax Reform Group for Tax Help for Older People registered charity no 1102276, offering free tax advice to older people on incomes below £20,000 a year. The Helpline number is 0845 601 3321 or geographical 01308 488066