People who are no longer able to work because of their health and are forced to retire early could receive a bill from HM Revenue & Customs (HMRC).
According to mutual insurer Royal London, the hundreds of workers who are in this situation every year get a “significant overnight boost to the value of their pension rights”.
But this comes with consequences, as the extra sum is likely to breach the annual allowance for pension tax relief – landing workers with a penalty.
Royal London said some pension schemes treat people affected by ill health as if they had continued working from the date of early retirement up until pension age.
The additional pension rights from that assumed service are added in one lump, causing the income tax system to treat these cases as if they made a massive contribution in a single year.
Steve Webb, director of policy at Royal London, said: “Pension schemes do not hand out early retirement benefits lightly, and it seems very harsh to punish those who are in poor health with big tax bills.
“It is not the case that the workers who face these bills have been shovelling money into a pension in order to max out on pension tax relief.
“They have simply found themselves unable to do their job, often through no fault of their own, and it is quite wrong to saddle them with a large tax bill as a result.”
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The mutual insure said that, usually, workers within the public sector are most affected by this, but it could hit anyone who is forced to retire early due to their health.
Webb sent a freedom of information (FOI) request to the Greater Manchester Pension Fund (GMPF) to understand how many of these cases happened in 2019.
The pension fund has a three-tier system to assess a member’s ill health and the contributions it would pay out.
- Tier 1: when a worker is unlikely to be capable of carrying out gainful employment before normal pension age. Their contributions are calculated on the pension already built up, plus an ill health enhancement based on 100% of the pension they would have accrued between the early retirement date and pension age.
- Tier 2: when a worker is not able to get gainful employment within three years of leaving, but are likely to be able to do so before the pension age. In this case, benefits are similar to Tier 1 but ill health contributions would total to 25% of the pension they would have built up from that date until normal retirement age.
- Tier 3: when a worker is able to find gainful employment within three years of leaving. There will be no enhancement and benefits will only be based on the pension accrued up to the date of retirement.
GMPF said: “In the year 2018/19, [we] issued pension savings statements to 336 members in total.
“Of these, 10 members exceeded their annual allowance due to ill health retirement enhancements, all of which had tier 1 benefits.
“Six of those members were subject to a tax charge.”
The pension fund could not provide a breakdown or the sums paid by the six members as that would have exceeded the costs associated with FOI requests.
