Aegon has issued a warning over what it called the ‘little known’ money purchase annual allowance (MPAA), which stops people who have accessed their pension flexibly from contributing more than £4,000 into their money purchase or defined contribution pension without a tax penalty.

The firm says it is “not compatible with the modern way half of people now view retirement.”

Recently, HMRC revealed it had no idea how many people had been affected by the MPAA, so Aegon said it was “no surprise that individuals are completely in the dark about this possible threat”.
 
Analysis of pension contributions showed that those earning £30,000 who, with their employer, are contributing sums equivalent to 14% of their salary to a money purchase pension, would be caught by the MPAA if they have flexibly accessed benefits.

Higher earners would be caught even if paying far lower contribution rates.

Someone earning £50,000 with a shared employer and employee contribution rate of just 8% of total earnings would be caught out, Aegon said.

According to Aegon research, half (49%) of UK workers over 50 years of age and earning upwards of £20k, wanted to transition into retirement by blending reduced working patterns with partial retirement.

Some 70% of those wanted to cut down the number of days they work a week and 44% were keen to reduce the number of hours they work each day.
 
This approach to retirement received a boost from the pension freedoms, introduced in 2015, which allowed people to dip into their money purchase pension savings from age 55, taking as much or as little as they like to supplement reduced earnings.

But under the MPAA anyone who flexibly accesses pension benefits, perhaps for only one of their pensions, is then effectively barred for life from paying in more than £4,000 a year in total to all defined contribution pensions unless prepared to pay a penal tax charge.

This includes any contribution from their employer.
 
Aegon called for the limit to be “substantially increased so people can have the freedom and flexibility to transition into retirement at their own pace without it curtailing their future retirement savings”.

Steven Cameron, pensions director at Aegon, said: “Retirement is no longer a ‘cliff-edge’ event, with many people now looking for a change of pace rather than wanting to give up work altogether at traditional retirement ages.

“People have embraced pension freedoms with many accessing part of their pension flexibly before they fully retire.

“But few realise this comes with a sting in the tail in terms of how much they and their employer can then contribute in total to pensions in the future without the individual receiving a penal tax charge.
 
“The £4,000 money purchase annual allowance is putting thousands of older workers at risk of finding out too late that they have damaged their future pension potential.

“Barriers to contributing above £4,000 a year in later working life could leave individuals thousands of pounds out of pocket through having to turn down valuable employer pension contributions.

“It could even mean that they opt out of being automatically enrolled into a workplace pension because their combined employer and individual contributions are above £4,000. 
 
“This little known cap is undermining the widely applauded pension freedoms and auto-enrolment and we would like to see it returned to the original £10,000 limit to reflect the current attitude of the working population when they consider retirement.”
 
He added: “The rule was introduced to stop people ‘recycling’ their pension, effectively drawing a pension income and paying it back in to get a second round of tax relief.

“We do not believe this is a real life issue, but limiting contributions to £4,000 means many thousands of people could accidentally end up with a tax bill or have their retirement saving prospects severely reduced for the rest of their working lives.

“For someone dipping in at age 55, that could be a further 20 years.
 
“Another group which needs to be wary is the self-employed.

“This group often find they invest any spare money in their business at younger ages, while planning to ‘catch up’ by paying in substantial sums in their later years.

“But they need to be cautious as if they access any of their pensions flexibly, instead of up to £40,000, they will be unable to pay in more than £4,000 a year without a tax penalty.”