Pension lump sum rules hit hard

If you have a pension, you’ll probably know that you can take a tax-free lump of up to 25% of the pension’s value. You can normally do this after the age of 55 (rising to 57 from 2028). However, quite a number of people have recently taken a pension lump sum and now want to return it to their retirement pots. Unfortunately, this can cause you problems. In this post, we look at the lump sum rules and how they may affect you.

Why have so many people taken a pension lump sum?

In the lead up to the 2024 Autumn Budget, there were lots of rumours that the Chancellor would drastically reduce the lump sum you can withdraw tax free.

This led to a significant number of people to take a lump sum as a pre-emptive measure.

Many of these people assumed they would have a 30-day cooling off period in which to reverse these withdrawals. Unfortunately, HMRC has now said that people trying to return lump sums could face ‘unauthorised payments charges’.

Why isn’t there a cooling off period?

In December 2024, HMRC tackled the subject of pension lump sums in its regular newsletter. It said:

Some pension contracts and policies allow for a cooling-off period. Under Financial Conduct Authority (FCA) rules, cooling off rights apply to the purchase of a new product only, for example the purchase of an annuity. The payment of a PCLS [pension commencement lump sum] or UFPLS [uncrystallised funds pension lump sum] is not a new product, which means that cooling off periods do not apply to those payments.

In other words, because an existing pension is not a new product, you do not have a cooling off period after taking out a lump sum.

HMRC further explains what happens if you do take out a pension lump sum.

The payment of a tax-free lump sum cannot be undone and the member’s lump sum allowance will not be restored. The lump sum must be tested against their lump sum allowance at the time the lump sum was paid from their pension scheme.

Unauthorised payments charges may apply if contributions to pension schemes are made out of tax-free lump sums and the conditions for the recycling rule are met.

Why is this such a problem?

The main problem is that many people have pensions with providers who have promised a cooling-off period for lump sums. This has led some to suspend their policy of allowing customers to reverse lump sum payments without losing their tax-free allowance.

HMRC’s guidance has caused alarm among pension providers. Many industry bodies and firms are currently asking HMRC and the Financial Conduct Authority for further clarity. This is because many believe that, when a customer requests a lump sum, they are entering a new contract to vary their pension scheme. As such, many firms believe that a lump sum withdrawal should be subject to a cooling off period.

I’ve taken a pension lump sum. What do I do?

If you’ve taken a lump sum and want to reverse it, you need to speak to your pension provider. However, if you’d like to review your pension, you may want to consider our wealth management service. We’d be happy to provide you with impartial advice on retirement savings strategies.