Ex-Minister Reveals Small Pot Pension Hack

Lisa Smith, BA (Hons), CeFA

Former Pensions Minister Steve Webb has revealed a money hack that exploits a loophole for retirement savers.

He urges savers with two or more pension pots to make sure they take their money out in the ‘right order’ to avoid triggering rules that impact how much they can save in the future.

Instead of having a £40,000 pension savings allowance, this can be slashed to just £4,000 if the money is taken from the wrong pot.

The problem to avoid is invoking the Money Purchase Annual Allowance (MPAA) when taking the cash.

The MPAA is activated when a saver takes more than the 25% tax free lump sum from a pension – but Webb points out that there is a little known exception to the rule.

Beating the MPAA

This is when a retirement saver takes money from a fund worth £10,000 or less.

He points out that most savers take less than £10,000 cash from their pots, but if they have two or more pensions, tend to take the money from the larger fund.

“Last year, over half a million people aged 55 or over made flexible withdrawals from their pension, and many of these withdrawals will have been for amounts under £10,000,” said Webb.

“If they emptied out a small pot then this will have had no impact on their future ability to save into a pension.  But if, by mistake, they took the same amount as a partial withdrawal from a bigger pot, they risk triggering stringent limits on future pension saving.

Taking money in the right order

“Those with more than one pension pot should consider very carefully the order in which they access these funds, especially if they may want to contribute into a pension in future.”

The rule of thumb, he says, is to cash in the smallest fund first to avoid setting off the MPAA and restricting future saving.

“Consider someone with two pension pots, one worth £4,000 and one worth £20,000.  Suppose that they want to withdraw £9,000 before tax.  If they cash in the £4,000 pot in full and take just the 25% tax free lump sum out of the larger pot, they will not trigger the MPAA.  But if they take the full £9,000 from the larger pot they will trigger the MPAA which will reduce by 90% their annual allowance going forward,” said Webb.

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