Pensioners hoping to pull down cash from their pension pot when new freedoms kick-in from April have been warned they will pay emergency tax rates on the money.
Complicated HM Revenue & Customs rules mean those withdrawing money will have to overpay potentially thousands of pounds in tax and then apply in writing for a refund, or else wait until the end of the tax year for the overpayment to be corrected automatically.
The Government has suggested that people will be able to keep pension pots invested and use them flexibly to dip into when they choose, but the tax system tells a different story.
Those taking out a lump sum will be judged as if they were starting the first of monthly withdrawals - and taxed as if they were going to keep this up for the rest of the year.
They will be put on an emergency tax rate that not only pushes them up the tax bands - potentially to as high as 45 per cent - but also removes their tax-free personal allowance.
Giant insurer Aegon warned that many of those hoping to use the new 'pension freedom' flexibility are unaware of the tax implications.
Those withdrawing cash for a specific purpose, for instance to clear a mortgage, or help family members with a home deposit, may end up with too little after the emergency tax is taken.
Kate Smith, Regulatory Strategy Manager at Aegon said: 'It’s important people understand that if they’re taking a lump sum, the chances are they won’t receive the full amount they’re due initially because of the way tax codes work.
'In most cases people will pay an emergency tax rate on the payment and then they have the option to reclaim the overpaid tax immediately from HMRC, or wait until HMRC makes the tax adjustment in the following April.'
Pension freedom starts on April 6 and gives anyone aged 55 or above the ability to withdraw money from their pension pot and pay income tax on the money. This gives savers far greater flexibility over how they access their money.