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Our resident expert helps with a question about moving cash between pension pots
Thursday 03 Jun 2021 Author: Tom Selby

I’m hoping for some plain English help on recycling tax-free lump sums into a SIPP. I’d like to take advantage of my Local Government defined benefit pension scheme at age 55 and take my 25% tax-free lump sum.

I’d like to split this between my Stocks and Shares ISA and a SIPP, but I’m aware of conditions that mean you can’t pay anything significant into a SIPP from a
tax-free lump sum without incurring a penalty.

Would significantly increasing my regular pension contributions from my salary and compensating for that loss by drawing down from the increased ISA be classed as recycling?


Tom Selby, AJ Bell Senior Analyst says:

HMRC has rules which are designed to ensure people do not excessively ‘recycle’ their 25% tax-free lump sum back into a pension.

These measures are in place to protect the exchequer – without them, people would be free to keep putting their 25% tax-free cash back into a pension, generating extra tax relief and additional tax-free cash entitlements.

There are specific conditions which need to be met for HMRC to consider that tax-free cash recycling has taken place. It’s probably easiest to ask yourself a series of questions to determine whether or not you breach these conditions:

Have you received or are you planning to take a tax-free lump sum from your pension?

Is the amount of tax-free cash received over 12 months from all pension plans more than £7,500?

As a result of receiving the tax-free lump sum (or sums), have pension contributions increased by more than 30% of what might have been expected?

Are the extra pension contributions more than 30% of the tax-free lump sum (or sums) received?

Is the recycling pre-planned?

If the answer to all these questions is ‘Yes’ then pension tax-free cash has been recycled and the lump sum will be treated as an ‘unauthorised payment’. This means the payment will be subject to a charge of at least 55%. There will also likely be 15% ‘scheme sanction’ charge, taking the total hit to an eye-watering 70%.

While an increase in pension contributions ‘by more than 30% of what might have been expected’ (see question 3) may sound a bit vague, it’s actually a specific condition. HMRC looks at pension contributions paid in the rest of the tax year after you took your tax-free cash plus up to two more years afterwards.

This is then compared with the contributions made during a similar period before tax-free cash was taken.

You can’t get round this by paying the tax-free cash into different pension schemes as HMRC will look at all of your contributions when making its assessment.

HMRC also won’t consider what you do in relation to other products, such as ISAs, when deciding whether pensions recycling has occurred.

If you want to stay the right side of HMRC’s rules, the easiest thing to do is make sure you can answer ‘No’ to at least one of the five questions above.

Please note, we only provide information and we do not provide financial advice. If you’re unsure please consult a suitably qualified financial adviser. We cannot comment on individual investment portfolios.

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