HMRC has reported that it paid back more than £56 million to pensioners due to the over taxation of pensions between April and June 2023.
Around 16,000 reclaim forms were processed over the last three months, with an average reclaim of £3,551 - the second highest since 2015, when pensioners could first flexibly access their defined contribution pension pot.
This figure has increased by £8m since the first quarter of the year, when £48m was overpaid.
Why are pensions over-taxed?
Usually, savers can withdraw the first 25% of their pension tax-free, with income tax due on amounts above this limit. This can be done either as an uncrystallised fund pension lump sum or through a pension drawdown plan.
Your pension provider should collect the tax on your behalf. But because the provider might not have all the details about your tax position and income, people taking ad-hoc amounts as lump sums can sometimes be put on an emergency tax code and end up paying more.
HMRC taxes the first flexible pension withdrawal someone makes in a tax year on a ‘month one' basis, meaning it divides an individual's usual tax allowances by 12 and applies them to the withdrawal.
While those who take a regular income or make multiple withdrawals during the tax year should automatically be put right by HMRC, anyone who makes just one withdrawal at a time could be left out of pocket.
‘Arcane approach'
Some have called for reform to the Government's approach to tax on pension withdrawals, especially in light of the current cost of living crisis.
Tom Selby, head of retirement policy at AJ Bell, said: "It is simply unacceptable that the Government has failed to adapt the tax system to cope with the fact Brits are able to access their pensions flexibly from age 55."
Instead, he argued, it persists "with an arcane approach which hits people with an unfair tax bill, often running into thousands of pounds, and requires them to fill in one of three forms if they want to get their money back within 30 days.
"One way savers planning to take a single withdrawal in a tax year can potentially avoid the shock of a big over taxation bill is by taking a notional withdrawal first. This should mean HMRC is able to apply the correct tax code to the second, larger withdrawal."
Earlier this year, a spokesperson for HMRC said: "Nobody overpays tax as a result of taking advantage of pension flexibility.
"We will automatically repay anyone who pays too much because they are on an emergency tax code. Individuals can claim back any overpayment earlier if they wish."
Talk to us about your pension.