Yet another Covid timebomb could await the hundreds of thousands of savers who have dipped into their pensions during the pandemic, triggering punitive tax charges.
However, 80% of those aged between 55 and 64 are unaware their future pension contributions could be capped after they make a withdrawal, research from NFU Mutual has found.
The number of people cashing in on their lifetime savings has increased by 56% since the first lockdown, according to figures from the Association of British Insurers, a trade body.
Diligent savers paused making big financial decisions during the start of the pandemic while global stock markets swung wildly, but have since started to act again.
There was a 17% year on year fall in the amount of money accessed flexibly from retirement pots in April. But many have since been forced to tap into their pension wealth to make ends meet as a result of the economic downturn.
Introduced in 2015, the “pension pot freedom” rules allow savers to access their pension pot from the age of 55. Every year since, a growing number of savers have dipped into their pot.
However, withdrawing income from some types of pension triggers the MPAA, money purchase annual allowance, which reduces the amount a saver can pay in with tax relief by 90%, from £40,000 to £4,000.
The lower limit takes effect when a saver takes taxable income from their pension pot which means they would have to take more than the 25% tax-free cash for it to apply.
Once the cut has been triggered it cannot be undone and savers also lose the ability to carry forward any unused allowances from previous tax years. This measure was introduced by the Treasury to stop people recycling large sums of money through pensions to benefit from the extra tax-free cash.
The sudden drop can be particularly damaging to people who are still in work and plan to make large payments into their pensions in the final, high-earning years before retirement.
A third of over 55s who are still working plan to dip into their pensions before they leave the labour market for good, NFU Mutual found.
Sean McCann from the firm said: “Considering many workers over 55 will be at the peak of their earnings, they risk missing out on contributions from their employer as well as valuable tax relief.”
Four in 10 older workers expect to have to work beyond the state pension age of 66, research from Canada Life, the insurer, has found. This means that those who make use of the pension freedom rules from age 55 could limiting their savings potential for more than 11 years.
More than 347,000 people made a withdrawal from their nest egg between June and September, an increase of 20,000 compared with 2019, according to data from HMRC.
Ian Browne of Quilter, an investment firm, said people having felt forced to tap into their retirement pot early and then being unable to recover the funding gap when their finances were in better shape would have a “scarring effect” on people’s savings.
He has called on Chancellor Rishi Sunak to relax the MPAA rules for at least the current tax year in order to avoid the fate for people forced to use pension cash to help them through the coronavirus crisis.
We’ll see what the Chancellor has to say when he delivers the 2020 spending review tomorrow though with the budget deficit approaching £400bn I am not hopeful!