63% of working retirees risk falling into a 'tax trap'

Introduction

• More than a quarter (26%) of over 55s are, or plan, to ‘unretire’ and do paid work in retirement
• Nearly two-thirds (63%) of these haven’t checked the potential tax implications of doing so, and could risk falling into a 'tax trap'
• Three-fifths (60%) of 'unretirees' aren’t seeking financial advice for their retirement

Nearly two-thirds (63%) of UK over 55s who are working, or plan to work, in their retirement haven’t checked if they could be paying higher tax bills by doing so, according to new research commissioned by Wesleyan Financial Services*.

'Unretiring' is where an individual continues to work in some capacity after 'retiring'. Wesleyan’s survey shows that more than a quarter (26%) of over 55s are 'unretiring' and doing, or planning to do, some form of paid work while in retirement.

The tax trap

The research highlights that these individuals are potentially overlooking the tax implications of this decision, and could be falling into a 'tax trap'.

Concerningly, three fifths (60%) of over 55s who are or plan to work in retirement say they have no plans to seek retirement advice.

Linda Wallace, Managing Director of Wesleyan Financial Services, explains: "The traditional goals of 'retire and stop' are changing. 'Unretiring' is no longer a trend but a permanent feature of society and it can offer hugely positive opportunities for people later in life. But before making any decisions about whether to unretire, bear in mind that working in retirement also comes with tax implications.

"If you are already taking money out of your retirement savings through an annuity or drawdown or are receiving the state pension, any extra income will boost your earnings and potentially add to your tax bill if the amount is above the personal tax threshold, which is currently £12,570. Combining salary with pension income could also push you into a higher tax bracket, increasing your tax liability. Note, tax treatment depends on everyone’s individual circumstances and may be subject to change in the future.

"Also, if you want to continue to boost your pension contributions by returning to work, you may be limited in how much you can pay in, tax efficiently. Pensions and investments are complicated areas to understand and going back to work could make matters even more complex. To avoid falling foul make sure you’re well-informed and seek advice."

Reasons for 'unretiring'

The survey found that the reasons behind 'unretiring' can have nothing to do with money.

Although more than a fifth (22%) of those who had retired and who were working, or planned to work, said they were doing so to generate additional income for luxuries like travel and home renovations, a similar proportion (19%) said it was to keep their brain active, while just over one in ten (13%) said they wanted to give themselves a better sense of purpose.

Meanwhile, more than a third (36%) of those who were yet to retire, but who wanted to keep working said it was because they thought they’d miss social interaction.

Wesleyan’s research also highlighted that working in retirement doesn’t always mean returning to a previous career or work arrangement. 43% of 'unretiring' over 55s who were already retired said they had, or planned to, change their profession.

Ten tips to avoid the 'tax trap'

• Seek Professional Advice
  Consulting a financial advisor can help you structure your finances in the most tax-efficient manner. They can provide personalised advice based on your specific circumstances.

• Understand Your Tax-Free Allowance
  Every individual in the UK has a personal allowance, which is the amount of income you can earn before you start paying income tax. For the 2023/24 tax year, this allowance is £12,570. If your total income (including pensions and new earnings) exceeds this threshold, you'll be liable for income tax.

• Review Pension Withdrawals
  If you’ve accessed your pension using flexible drawdown, be aware of the Money Purchase Annual Allowance (MPAA). This limits the amount you can contribute to a defined contribution pension scheme to £10,000 per year without incurring a tax charge. Exceeding this limit can lead to unexpected tax bills.

• Plan Your Income Streams
  Consider how your different sources of income (state pension, private pensions, new salary) interact. Keeping your total income within the basic rate tax band can help minimize the tax burden. The basic rate for the 2023/24 tax year is 20% on income between £12,571 and £50,270.

• Utilise Spousal Transfers
  If your spouse or partner has unused personal allowance, transferring a portion of your income to them can help reduce the overall tax burden. This can be done through the Marriage Allowance or, for larger amounts, by transferring savings and investments.

• Maximise Tax Reliefs and Allowances
  Make use of available tax reliefs and allowances. For instance, investing in an ISA (Individual Savings Account) can provide tax-free income and gains. The annual ISA allowance for the 2023/24 tax year is £20,000.

• Consider National Insurance Contributions
  If you are below the State Pension age and return to work, you may need to start paying National Insurance contributions again. Check your contributions record and the impact on your future entitlements.

• Defer your State Benefits
  You don't have to take your state pension when you hit state pension age, currently age 66. If you defer it, you'll get paid a higher amount when you do decide to claim – up to just under 5.8% a year more. But you'll receive it for a shorter time.

• Timing of Income
  If possible, spread out your income to avoid being pushed into a higher tax bracket in a single tax year. For example, consider deferring pension withdrawals or taking advantage of salary sacrifice schemes.

• Keep Records
  Maintain detailed records of all your income sources, pension withdrawals, and tax relief claims. This will make it easier to complete your self-assessment tax return and ensure you don’t miss any important tax breaks.

* Survey of 2,000 UK adults aged 55 and over, conducted by OnePoll on behalf of Wesleyan Financial Services in May 2024.