HMRC is writing to taxpayers who will incur a tax liability on their state pensions, removing them from self-assessment (SA), but is providing no indication of how the tax will be collected.

Tax advisers RSM said in a briefing note that a concerned individual who receives a UK state pension and an overseas private pension had contacted them when this happened to them as they had been incurring a tax liability collected via self-assessment for many years.

They had also been removed from SA with no indication of how to pay the tax.

RSM said that running the HMRC checker as to whether the individual needs a return comes back with ‘you need to send in an SA return', which is not surprising given the resulting liability.

RSM's Sara Bonavia said: "We have seen a number of letters in recent weeks where HMRC has written to taxpayers to remove them from self-assessment (SA), when there is no other mechanism to collect the tax.

"This is causing confusion and worry for individuals and can also stack up issues for the future. Should HMRC be collecting tax on state pensions at source as a way to mitigate this?"

She cited another individual who deferred their state pension so benefits from a significantly increased pension of around £20,000.

"They also have savings income of £1,500. Their income is clearly over the personal allowance and savings allowance, and therefore generates a tax liability.

"There is no PAYE income, so no ability for HMRC to collect tax at source. The individual has been submitting tax returns and making payments on account each January and July for many years. However, they have now received a letter saying they no longer need to complete returns, with no indication as to how to pay their tax liability once their balancing payment for 2022/23 has been paid."

These individuals had approached RSM for advice as to what to do - one of them tried calling HMRC but gave up after 45 minutes, and both were worried that if they don't continue to pay their tax they are storing up problems for the future.

This has led RSM to consider other options, arguing that the individual's income from the deferred state pension could be fully taxed at source if the state pension was taxed under PAYE, and depending on the numbers, this could also be possible for the other individual.  

"Increasing the state pension annually in a time of rising interest rates and falling dividend allowances, without increasing the personal allowance will gradually be dragging more and more pensioners into the position where they have a tax liability, but no clear mechanism to settle this efficiently.

"The easy option would be to increase the personal allowance at the same rate as state pensions, but the government has already committed to freezing this until 5 April 2028, when it will start being indexed by the Consumer Price Index. State pensions are expected to rise by 8.5% in April 2024, taking the new state pension to £11,501 for 2024/25, leaving just £1,069 of personal allowance remaining. A similar rate of increase in the following years would make the new state pension greater than the personal allowance well before 5 April 2028."   

RSM concluded: "We call on HMRC and the government to keep simplicity for pensioners' tax affairs and avoid them from building up unexpected tax liabilities."