Planning for life after work usually starts with a rough idea of how much you’ve got in the pot and how long it needs to last.
But once you actually stop earning, the biggest drain on your savings isn’t just your weekly shop or the odd holiday—it’s the taxman taking a slice of your pension before you’ve even touched it. Most people just accept the standard deductions as a fact of life, but there are actually several ways to keep more of your own cash if you’re a bit more strategic with how you draw your money down.
You don’t need to be doing anything dodgy (nor should you). It’s all about understanding the specific quirks of the UK tax system that allow you to move your money around more efficiently. By making a few adjustments to where your income actually comes from, you can significantly lower your bill and make your hard-earned savings stretch a lot further than you first thought. Here’s how to do just that, though it should be noted that you should speak to a licensed financial advisor for more information on your particular circumstances.
Only take what you actually need each year.
Pension income is taxed just like any other income, which means if what you draw exceeds your personal allowance, you’ll be paying tax on the difference. For 2025/26 and 2026/27 the personal allowance sits at £12,570, so anything above that gets taxed. The straightforward way to manage this is to be deliberate about how much you withdraw each year, rather than just taking what feels comfortable.
Keeping your withdrawals within the basic rate tax band makes a significant difference to what you actually end up paying, and it’s worth doing the maths before you decide on an amount rather than working it out afterwards.
Take your tax-free cash gradually rather than all at once.
Most people know that you can take 25% of your defined contribution pension as a tax-free lump sum from age 55, rising to 57 from 2028. What a lot of people don’t realise is that you don’t have to take it all in one go. Taking it in smaller chunks over time is more tax-efficient for two reasons. First, the money that stays invested has more time to grow, so leaving it in rather than withdrawing it all early can mean more in your pocket overall.
Second, using the tax-free portion to supplement your taxable income gradually means you’re less likely to tip yourself into a higher tax band in any given year. It’s the kind of thing that sounds like a minor detail but can add up to a meaningful saving across a full retirement.
Watch your Personal Savings Allowance carefully.
If you have savings sitting in accounts outside an ISA, the interest you earn on those savings counts towards your Personal Savings Allowance. For basic rate taxpayers that allowance is £1,000 a year, dropping to £500 for higher rate taxpayers and disappearing entirely for additional rate taxpayers. The problem is that the allowance has been frozen since it was introduced, while interest rates have risen considerably in recent years, meaning a lot of savers are now nudging up against it without realising.
If you think you might be close to the limit, moving some savings into a cash ISA is worth considering. You can put up to £20,000 a year into ISAs and pay no tax on the returns, though from 2027, those under 65 will only be able to put £12,000 of that allowance into cash ISAs specifically.
Check whether you qualify for the starting rate for savings.
This one is less well known and catches a lot of people out in a good way. If your income is relatively low, you can receive up to £5,000 a year in savings interest completely tax-free through something called the starting rate for savings. Every pound you earn from non-savings income reduces this allowance by a pound, but if you earn less than £18,570 a year from income and savings interest combined, your savings interest could end up being entirely tax-free.
As a straightforward example, if your income is £12,570, and you earn £4,000 in savings interest, you’d pay no tax on it at all. The starting rate allowance and the Personal Savings Allowance for basic rate taxpayers work alongside each other, which means people on modest retirement incomes often have more room for tax-free savings interest than they’d expect.
Make the most of the other allowances available to you.
There are a few smaller allowances that are easy to overlook but worth using. If you have investments held outside an ISA, you can draw up to £500 a year from dividends tax-free and make up to £3,000 in capital gains without paying tax. If you do any casual buying and selling, whether that’s on eBay, at car boot sales or elsewhere, you can earn up to £1,000 a year from that without it being taxable. If you have a spare room you’re willing to rent out, the government’s Rent a Room scheme lets you bring in up to £7,500 a year tax-free.
None of these are life-changing on their own, but used together they represent a reasonable amount of income that doesn’t need to go anywhere near HMRC. Sheltering as much as possible in ISAs remains the cleanest long-term approach, given that gains inside an ISA are free from both income tax and capital gains tax, and the annual £20,000 allowance is a use-it-or-lose-it situation with no guarantee a future government won’t reduce it.
Think about inheritance tax before it becomes someone else’s problem.
Inheritance tax isn’t something you’ll personally pay, but it could leave your family facing a significant bill if you haven’t thought about it in advance. Changes announced in the 2024 Budget mean that from 2027, pension savings will be included in estates for inheritance tax purposes, which is a significant shift from how things currently work. Pensions have historically been a very effective way to pass wealth on to the next generation without a tax hit, and that advantage is about to become considerably smaller.
Government estimates suggest the change could pull an additional 38,500 estates into the inheritance tax net, with families facing an average bill of around £34,000. Making use of gifting allowances now, before those changes take effect, is one of the more practical things you can do. You can give away up to £3,000 a year as a tax-free gift, plus additional allowances for weddings and regular gifts made from income. It is worth noting that pension and tax planning of this kind is complicated enough that professional financial advice is genuinely worth considering before making any big decisions.
