Returning to work after retiring: How it affects your pension and taxes

A wave of older people who retired during the pandemic are returning to work out of financial necessity, new research reveals.

Money is the main motive cited by 50 to 65-year-olds looking to find a job again as household bills soar and recession looms.

But whether you retired due to family circumstances, lost your job or gave up work of your own accord, reversing that decision is not always straightforward.

We look at recent retirement trends and round up pension and tax tips from finance experts for people rejoining the workforce in later life.

Why are people ‘unretiring’?

Official employment data for the year to August-October revealed people in their 50s and early 60s – who made up 60 per cent of those who became economically inactive during the pandemic – are now rejoining the workforce.

‘Inactivity has been falling this quarter – driven by this age group,’ said Sarah Coles, senior personal finance analyst at Hargreaves Lansdown, regarding the labour market statistics released last week.

‘The great unretirement is setting in, as waves of those who flooded into early retirement are pouring back into the workplace: the reality of living on a smaller pension at a time of rising prices is proving too difficult.’

She adds: ‘It’s unlikely that most of them hit the sofa and decided a life of leisure wasn’t for them. Instead there’s every chance that horrible reality has set in.

‘They’ve worked out what they can afford to live on for the rest of their lives, and with prices surging all around them, they they need to go back to work.’

A deeper dive into labour trends among older workers by the Office for National Statistics looked at their reasons for stopping work in the past few years, and what is driving some back into jobs now.

Roughly two thirds of 50 to 65-year-olds said money was an important motive to return to work, with those in the 50 to 54-year-old cohort most likely to give this reason.

‘As inflation soars at double digit rates and the cost-of-living crisis continues to bite, we are seeing a growing number give retirement a second thought,’ says Andrew Tully, technical director at Canada Life.

‘Not only are people now looking to work beyond their state pension age, but in some cases, we are seeing a retirement boomerang, with people either considering or returning to the workforce from retirement due to growing financial pressures.

‘Looking ahead, the older workforce is going to be critical to the recovery of the UK economy as it will help to alleviate severe labour shortages.

‘However, it is also a warning sign that people’s finances are under significant strain.’

Returning to work in later life? What you need to know

1. Auto enrolment

When you take a new job your employer will sign you up to its pension scheme, providing you are eligible under the auto-enrolment rules and don’t decide to opt out.

‘If you are below state pension age and earn above £10,000 your new employer should automatically enrol you into their workplace pension scheme,’ explains Andrew Tully of Canada Life.

‘If you are above state pension age you won’t be automatically enrolled but you will be given the option of joining.’

2. Tax trap

Your decision on whether to rejoin a pension and start saving again might be complicated if you have already begun making withdrawals from an old retirement fund.

When you start tapping a defined contribution pension pot for any amount over and above your 25 per cent tax free lump sum, you are only able to put away £4,000 a year and still automatically qualify for valuable tax relief from then onward.

This new and permanent limit is known in industry jargon as the ‘money purchase annual allowance’.

‘If you want to continue building your pension on your return to work then check to see if you have triggered the MPAA as this could have an enormous effect on how much you can contribute,’ says Helen Morrissey, senior pensions and retirement analyst at Hargreaves Lansdown.

‘Ordinarily someone can contribute up to £40,000 per year to their pension and still benefit from tax relief but if you have accessed your pension flexibly while you were away from work then this drops to £4,000 per year.

‘If you contribute more to your pension than this then HMRC will send you a bill for the extra tax relief you have claimed.’

Tully warns that withdrawing £1 more than your 25 per cent tax-free cash counts as ‘flexibly accessing’ your defined contribution pension, which on top of restricting future contributions means you lose the ability to carry forward unused allowances from the previous three tax years

‘The MPAA of £4,000 includes both your contribution and that of your employer,’ he notes.

3. State pension

‘If you can afford it, you can stop claiming your state pension for a while while you are working,’ says Morrissey.

‘This will give you a boosted state pension for when you do decide to stop work.

‘You can only stop claiming state pension once and you need to get in contact with DWP to let them know from what date you want to stop claiming. This cannot be a date in the past or more than four weeks in the future.’

Tully points out that stopping your state pension once it is in payment can help manage tax if you return to work, and you can choose to restart your state pension at any point.

And if you haven’t yet reached state pension age, you can also choose to defer taking payments at that point.

This is Money’s pensions columnist, Steve Webb, gives more detail on how to stop and restart your state pension here, and on deferring your state pension here.

4. Private pension income

If you come out of retirement to take a job, you should consider how much income you might currently be taking from your existing pensions, suggests Morrissey.

‘If you can afford to take less income or stop taking an income from your workplace pension while you are working, then this can give your pension more time to grow.

‘Many people automatically access their pension as soon as they are able but if you don’t need to take it then it can be left. Even taking less income can be helpful in boosting your pot.’

Tully says: ‘If you are in drawdown you may want to consider the income you are withdrawing, and potentially reduce this especially if total income between salary and pension will take you into a higher tax bracket.

‘Consider the income which will support the lifestyle you want. This can be from salary, state pensions, private pensions or other savings such as Isas.

‘Working out how long you could live, and the sustainability of your desired income level, is a complex task so consider getting professional advice.’

5. Annuities

‘An annuity in payment or defined benefit income in payment normally can’t be stopped or paused once it is in payment,’ warns Tully.

‘However if you have an annuity written within a Sipp drawdown wrapper, the income you take can be reduced or stopped, with the balance remaining invested in the drawdown until you want to withdraw it at a later date. This can help reduce the tax you pay.’

6. Tracking down old pensions

Job switching, auto enrolment with every move, and people’s tendency to lose information and not update schemes with contact details, all mean many lose sight of their old pensions.

The number of lost pensions has jumped 75 per cent to 2.8m over the past four years, and they are now worth 37 per cent more in total at £26.6billion – or £9,500 on average – according to industry data.

‘We work for several different employers during our working lives and the chances are you may have lost track of a pension that you had with them,’ says Morrissey.

‘This could have a massive impact on your financial prospects in retirement so if you think you may have lost track of a pension it’s worth getting in contact with the government’s Pension Tracing Service.

‘If you can remember the name of your employer or the pension provider then this service can give you contact details for them.’