Pension Freedoms: The Most Common Mistakes and How to Avoid Them

The Pension Freedoms introduced in April 2015 transformed how UK defined contribution pension holders access their retirement savings. For the first time, members could draw from their pension pot flexibly — taking as much or as little as they wanted, when they wanted, without being compelled to buy an annuity.

Over a decade on, the evidence is clear: the freedoms have been widely welcomed but also widely misused. Hasty decisions made without adequate advice have cost thousands of people tens of thousands of pounds in unnecessary tax and lost future income.

This guide explains the most common pension freedoms mistakes — and what to do instead. It is for information only and does not constitute personal financial advice. Seek regulated advice before accessing your pension.

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Mistake 1: Taking Too Much Too Soon — The Income Tax Spike

The single most costly error is withdrawing a large lump sum from a pension without understanding the income tax consequences.

Your pension is not a tax-free savings account. Every pound you withdraw as income (including uncrystallised fund pension lump sums, or UFPLS) is added to your total taxable income for that tax year and taxed at your marginal rate. In 2026/27:

• The personal allowance: £12,570 (no tax).
• Basic rate (20%): £12,571 to £50,270.
• Higher rate (40%): £50,271 to £125,140.
• Additional rate (45%): above £125,140.

If you earn £40,000 per year and withdraw £60,000 from your pension in one go, your total income is £100,000. The slice of the withdrawal between £40,000 and £50,270 is taxed at 20% and everything between £50,270 and £100,000 at 40% — a tax bill of roughly £21,900 on the withdrawal alone. Withdraw more and you also begin to lose your personal allowance (it tapers from £100,000 upwards), creating an effective 60% marginal tax rate on income between £100,000 and £125,140.

The fix: spread large withdrawals across multiple tax years to keep total income within the basic rate band, or lower. For very large sums, a phased drawdown strategy managed over several years can reduce the lifetime tax bill by tens of thousands of pounds.

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Mistake 2: Emergency Tax on Initial Withdrawals

When you take the first income payment from a new drawdown arrangement, HMRC instructs the pension provider to apply an emergency tax code in the absence of a current tax code for that income source. This typically means you are taxed as if you are receiving the same monthly payment for the entire year — massively overstating your annual income and generating a large temporary overtax.

Example: You take £30,000 from your pension in one month. HMRC's emergency code treats this as £360,000 annualised income. The overpayment of tax can be thousands of pounds — even though it is eventually refundable.

The fix:

• Submit the correct HMRC reclaim form promptly after the withdrawal — P55 (if you have taken only part of your pot and are not emptying it), P53Z (if you have emptied the pot and have other taxable income), or P50Z (if you have emptied the pot and have no other taxable income).
• Alternatively, wait for HMRC to reconcile your self-assessment return — but this can take months.
• Better still, discuss the emergency tax issue with your pension provider and financial adviser before the first withdrawal, and plan accordingly.

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Mistake 3: Failing to Fill the ISA Wrapper First

Many people approaching retirement have both pension savings and other investments or savings. A common planning error is to draw from the pension first, without first maximising the ISA allowance (£20,000 in 2026/27).

ISA withdrawals are entirely tax-free. Pension withdrawals (above the PCLS element) are not. If you have capacity to contribute to an ISA — using taxable income or taxable savings — doing so before drawing pension income is almost always advantageous for lifetime tax efficiency.

The logic:

1. Pension money will eventually be taxable on withdrawal (unless it is the PCLS element, which is tax-free).
2. ISA money is always tax-free on withdrawal.
3. Filling the ISA each year reduces future reliance on taxable pension withdrawals.

Some higher earners also overlook the possibility of using pension drawdown income to fund ISA contributions — drawing just enough pension to fill the basic-rate band, investing the net income into an ISA, and keeping future drawdown needs lower.

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Mistake 4: Triggering the Money Purchase Annual Allowance (MPAA) Accidentally

The Money Purchase Annual Allowance (MPAA) is a severely reduced annual allowance — £10,000 in 2026/27 — that applies once you have flexibly accessed your pension. It applies to all future defined contribution pension contributions (employer + employee combined).

Once triggered, the MPAA cannot be reversed.

The MPAA is triggered by:

• Taking a UFPLS (uncrystallised fund pension lump sum).
• Taking income from a flexi-access drawdown arrangement (even £1 of income triggers it).
• Purchasing a flexible annuity that allows income to decrease.

The MPAA is not triggered by:

• Taking the tax-free PCLS (pension commencement lump sum) only, with the remaining fund placed in a drawdown arrangement but no income drawn.
• Buying a lifetime annuity with level or escalating income.
• Receiving DB scheme income.
• Taking a small pots lump sum (up to three pots, each up to £10,000).

The danger: anyone still working — and particularly those returning to work after an initial retirement — who has drawn flexible pension income is limited to £10,000 per year in future DC contributions. For a senior executive returning to a high-paying role with an employer contributing 10% of a £200,000 salary, this cap creates an immediate and severe problem.

The fix: plan carefully before drawing any flexible income. If you want to maintain full pension contribution capacity, take the PCLS only (without drawing income) and leave the rest in drawdown undrawn. Seek regulated advice on the MPAA implications of any partial withdrawal.

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Mistake 5: Not Carrying Forward Annual Allowance Correctly

Before triggering the MPAA, high earners can use carry forward to make large pension contributions — potentially up to £240,000 (£60,000 for the current year plus £60,000 from each of the three prior years, all of which have had a £60,000 allowance since 2023/24) if allowances have been fully unused in prior years and relevant earnings are sufficient.

Common carry forward errors:

Assuming you can carry forward unlimited prior-year allowance: You can only carry forward from years in which you were a member of a registered pension scheme. Years in which you had no pension membership generate no carry forward.

Failing to use the current year's allowance first: Carry forward only applies to the excess above the current year's annual allowance. You must use the full current year allowance before carrying forward.

Calculating DB carry forward incorrectly: For DB scheme members, the annual allowance used is the pension input amount (the increase in benefits × 16, plus lump sum increase), not the employee contribution. Many members underestimate their DB pension input and wrongly believe they have carry forward available.

Not confirming prior-year pension inputs with former employers: Former DB schemes must be contacted to establish the exact pension input amount in prior years. This data is not always readily available, and delays in obtaining it can cause planning problems.

The fix: work with a regulated adviser or tax professional to map out pension input periods across all schemes for the prior three years, calculate true carry forward capacity, and complete the HMRC self-assessment declaration accurately.

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Mistake 6: Carrying Forward After MPAA Is Triggered

Once the MPAA is triggered, carry forward cannot increase the DC allowance above £10,000. Carry forward only applies to the defined benefit (DB) annual allowance — the remaining £50,000 in 2026/27 above the MPAA.

Many individuals mistakenly believe they can still make large DC contributions using carry forward after they have triggered the MPAA. They cannot. The £10,000 MPAA is a hard cap for DC contributions.

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Mistake 7: Overseas Withdrawal Tax Complications

For UK expats who access their pension while resident abroad, the tax picture is substantially more complex.

Many double taxation agreements (DTAs) provide that UK pension income is taxable only in the country of residence — not in the UK. This can be highly advantageous (e.g. for residents of countries with low pension tax rates).

However, errors occur when:

The DTA is not properly invoked: To claim treaty protection, you typically need to complete HMRC form DT-Individual and register for treaty relief. If not done, HMRC will withhold UK tax at source by default (using an emergency code), creating a reclaim process.

UFPLS is treated differently from annuity income: Some DTAs have provisions specifically covering pensions as a category, and the wording varies. A lump sum from a SIPP may be treated differently under a DTA than a monthly income. South Africa, Australia, and certain other jurisdictions have historically applied their own interpretation of "pension income" that does not straightforwardly extend to UFPLS.

The member returns to the UK: If you draw pension income while resident abroad under a favourable DTA and then return to the UK, future withdrawals will be subject to UK income tax. Any income drawn during non-residency was legitimately protected — but income drawn after return is not.

The fix: take specific cross-border pension advice before drawing any pension income from abroad, particularly for first withdrawals where emergency codes apply and DTA elections must be made.

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Mistake 8: Ignoring the Sequencing Risk

Drawing too much from a DC fund in the early years of retirement — particularly during market downturns — creates sequencing risk: permanent capital destruction that cannot be recovered even if markets later recover.

Example: A £500,000 SIPP falls 25% to £375,000 in year one of retirement. If you simultaneously draw £30,000 of income, the remaining fund is £345,000. Even if the fund then delivers 7% annually, you have permanently lost the compound growth on the capital consumed during the downturn.

The fix is a disciplined drawdown strategy — holding a cash buffer (1–2 years of income), drawing from cash first during downturns, and allowing equity-heavy allocations time to recover. This is not a "set and forget" approach — it requires annual review.

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Key Takeaways

• Spread large pension withdrawals across tax years to avoid income tax spikes.
• Reclaim emergency tax promptly using the correct HMRC form.
• Fill the ISA wrapper before drawing pension income where possible.
• Avoid triggering the MPAA unless you are certain you will not need to make large DC contributions in future.
• Seek regulated advice before any first withdrawal, particularly if you are still employed or living abroad.

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How Global Investments Can Help

Global Investments advises clients at every stage of pension decumulation, from early retirement planning through to later-life income management. Our regulated advisory partners can model the income tax impact of different drawdown strategies, identify ISA and carry forward opportunities, manage the MPAA risk for clients who are both drawing pension income and continuing to work, and provide specialist guidance for expats navigating cross-border pension withdrawals.

Pension freedoms are genuinely valuable. The key is ensuring that freedom does not become an expensive mistake.

This article is for general information only and does not constitute regulated financial advice. Tax rates, allowances, and pension rules are subject to change. Always seek qualified regulated advice before accessing pension savings.