Understanding the Tax Implications of SIPP Withdrawals: 1257L Tax Codes Explained

Dec 2, 2024 | Ben Eccles, Tax

Understanding the Tax Implications of SIPP Withdrawals: 1257L Tax Codes Explained

Dec 2, 2024 | Ben Eccles, Tax

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Ben Eccles

Independent Financial Adviser

When withdrawing from your Self-Invested Personal Pension (SIPP), the amount of tax withheld can vary significantly depending on the tax code applied by HMRC. This article explores the differences between the 1257L Week 1/Month 1 and 1257L Cumulative tax codes and explains how they impact a one-off withdrawal of £50,000. 

What Are the 1257L Tax Codes?

The 1257L tax code is the most common in the UK, reflecting the standard personal allowance of £12,570 for the 2023/24 tax year. However, it can be applied in two ways:

  1. 1257L Week 1/Month 1 (Non-Cumulative):
  • Treats each payment as a standalone event, without considering income or tax already paid in the tax year.
  • Often results in higher tax withholding, especially for large, irregular withdrawals.
  1. 1257L Cumulative:
  • Accounts for total income and tax paid since the start of the tax year.
  • Provides a more accurate calculation by incorporating any remaining personal allowance and applying the correct tax bands based on your year-to-date income. 
Example: A £50,000 SIPP Withdrawal

Let’s look at how tax is calculated under each code for a £50,000 withdrawal, assuming you have already used your full 25% tax-free lump sum.

Scenario 1: 1257L Week 1/Month 1 (Non-Cumulative)

Under this code, your withdrawal is taxed as if it’s the only income for the month:

  • Personal Allowance (Monthly Basis): £1,048 tax-free.
  • Tax Bands:

£1,048 to £4,189: Taxed at 20% = £628.20.

£4,189 to £12,500: Taxed at 40% = £3,324.40.

Above £12,500: Taxed at 45% = £16,875. 

Summary:

  • Total Tax Withheld: £20,827.60.
  • Net Amount Received: £29,172.40. 
Scenario 2: 1257L Cumulative

With the cumulative code, the system considers your total annual income and applies tax bands accordingly. If this is your only income for the year, the calculation looks like this:

  • Personal Allowance (Annual Basis): £12,570 tax-free.
  • Tax Bands:
  • £12,571 to £50,000: Taxed at 20% = £7,486.

Summary:

  • Total Tax Liability: £7,486.
  • Net Amount Received: £42,514.
Key Differences Between the Two Codes

Feature1257L Week 1/Month 11257L Cumulative
Calculation BasisStandalone (per payment)  Year-to-date (cumulative)
Personal AllowancePro-rated monthlyFull annual allowance applied
AccuracyLess accurate, higher withholdingMore accurate, aligns with annual income
Tax Refunds   Likely overpayment, requires reclaimLess likely to overpay

What If I Overpay Tax?

If your withdrawal is taxed under the Week 1/Month 1 code, you may overpay tax. For instance, in the example above, the withheld tax (£20,827.60) is far higher than your actual liability (£7,486) if this is your only income for the year. You can reclaim overpaid tax by:

  • Filing a P55 form with HMRC.
  • Submitting a self-assessment tax return.
Conclusion

Understanding how tax codes work can help you anticipate the tax implications of SIPP withdrawals. While the 1257L Week 1/Month 1 code may lead to temporary overpayment, the 1257L Cumulative code ensures a more accurate deduction based on your total annual income. If you’re planning a significant withdrawal, it’s worth checking with HMRC or a tax adviser to confirm your tax code and plan accordingly.

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This communication is for informational purposes only based on our understanding of current legislation and practices which are subject to change and are not intended to constitute, and should not be construed as, investment advice, investment recommendations or investment research. You should seek advice from a professional adviser before embarking on any financial planning activity. Whilst every effort has been made to ensure the information contained in this communication is correct, we are not responsible for any errors or omissions.

 

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