Tax-free lump sum vs UFPLS: how each way of taking cash is taxed

Most people taking money from a defined contribution pension have two main routes for getting at their tax-free cash. The first is to take a tax-free lump sum up front, usually up to 25% of the pot, and move the rest into a flexi-access drawdown fund where later withdrawals are taxed as income. The second is an uncrystallised funds pension lump sum, or UFPLS, where each withdrawal is split: 25% tax-free and 75% taxed as income¹.

The difference matters because the two routes give you the tax-free cash at different times. With drawdown you can take the 25% as a single tax-free payment and leave the rest invested, drawing taxable income only when you choose. With UFPLS there is no separate tax-free lump sum: the tax-free slice arrives with each withdrawal, and you cannot take it up front and leave the taxable part for later³.

Both routes are normally open from age 55, rising to 57 from 6 April 2028 for people without a protected pension age⁴. The tax-free amount is capped by the lump sum allowance, which is £268,275⁶.

Two ways to take tax-free cash from a pension

The tax-free lump sum is a long-standing feature of UK pensions. People can receive up to 25% of their pension as a tax-free lump sum, and all types of pension scheme can pay one up to 25% of the overall value of your benefits, provided the scheme rules allow it³. At the point your pension starts, you may take a tax-free cash lump sum, and when you retire you can take some of your pension as tax-free cash¹¹.

The two routes differ in when that 25% is paid out. Under drawdown, you take up to 25% of your pension pot as a tax-free lump sum at the same time as you put the funds into drawdown¹. Under UFPLS, you take money directly from your pension pot without buying an annuity or moving the money into drawdown, and 25% of each payment is tax-free¹.

A third option exists for people who want everything at once: taking the whole pot as a single payment, where 25% is usually tax-free and the other 75% counts as earnings for Income Tax². That route uses up the whole pot in one go and is a different decision from the two compared here.

Taking a tax-free lump sum up front and moving the rest into drawdown

This is the route most people picture when they think about pension freedom. You move your savings into a flexi-access drawdown fund and take up to 25% of your pension savings as a tax-free lump sum at the same time¹. The remaining 75% stays invested, and any withdrawals you make from it later are taxed as income¹³.

The advantage is timing. You get the full tax-free amount in your hand straight away, and you control when, and whether, you take taxable income afterwards. Around two thirds of the individuals choosing drawdown are only withdrawing the 25% tax-free element and leaving the rest invested¹⁴. That pattern keeps the taxable part untouched, so no income tax is triggered until you actually draw on it.

The trade-off is that the money left in drawdown stays invested, so its value can fall as well as rise. Drawdown can provide a regular income by reinvesting in funds designed for that purpose, but the income is not guaranteed and varies with fund performance¹⁵. You will need to pay annual charges and continually monitor your investments, or pay an adviser to do it for you, and because withdrawals are flexible and investment values can fall, there is a risk your pension may not last for the whole of your retirement¹⁶.

There is also a cost per withdrawal. When you make withdrawals from a flexi-access drawdown fund, you pay a fee to your pension provider for each withdrawal¹⁷. If you plan to take money out in many small amounts, those fees add up, and it is worth checking the schedule before you commit.

UFPLS: 25% of each withdrawal tax-free, 75% taxed as income

An uncrystallised funds pension lump sum works differently. Each payment is split automatically: 25% of the sum is payable tax-free and the remaining 75% is subject to income tax⁸. The same split appears across providers and guidance: 25% of each withdrawal is tax-free, with the rest charged at your normal income tax rate².

The practical effect is that you cannot separate the tax-free cash from the taxable income. Unlike going into drawdown, a UFPLS payment does not allow you to take the tax-free element up front and leave the taxable element for later¹⁸. Every time you take money, you take some of both.

A worked example makes the arithmetic clear. If you take a £20,000 lump sum, £5,000 of this would be tax-free and £15,000 would be treated as income⁹. The £15,000 is added to your other income for the year and taxed at your marginal rate, which can push part of it into a higher band if you already have significant income.

Tax is normally handled for you. If you take an uncrystallised pension fund lump sum, tax should be automatically deducted by your pension company through the PAYE system⁷. That does not always mean the right amount is taken first time, and overpaid pension tax is a known issue that can be reclaimed.

Fixed or tracker: how each one behaves

The two routes behave differently depending on what you need from your pension, and the choice is not reversible in every direction.

The key structural difference is that drawdown lets you bank the tax-free cash and defer all taxable income, while UFPLS forces the two together. If you have already taken all of your tax-free cash from your pension, you can only opt for UFPLS if you have not already taken all of your tax-free cash from your pension, so the order in which you use the routes matters⁷.

If your scheme allows more than the standard 25% as a tax-free lump sum, taking a UFPLS instead can cost you. Where someone is entitled to more than 25% tax-free cash and takes a UFPLS, the tax-free element will still be 25%, so they will lose some of their entitlement¹⁸. That is a reason to check the scheme rules before choosing.

Minimum pension age rises from 55 to 57

The age at which you can normally take tax-free cash and start drawing on a defined contribution pension is 55, and it rises to 57 from 6 April 2028⁴. The change applies to taking lump sums, starting drawdown and buying an annuity, and it applies to people without a protected pension age⁴.

Until then, you can take a tax-free lump sum from your pension from the age of 55, and you can take up to 25% from your pension as a tax-free lump sum at any time from age 55, rising to 57 from April 2028⁷. The same age applies to UFPLS: taking lump sums from a pension is possible from age 55, rising to 57 in 2028¹⁹.

There are exceptions. You can take your private pension savings as lump sums if you are aged 55 or over and have a defined contribution pension, and ill health can allow access earlier²⁰. If you are aged under 75 and taking a serious ill-health lump sum, usually you will not have to pay tax on it, but a registered medical professional must confirm life expectancy to the provider²⁰.

What happens to your pension if you die before 75

The tax treatment of what is left in your pension depends on your age when you die, not on which route you chose. If someone dies before their 75th birthday, most lump sums paid from their pension are tax-free up to a limit³. If they die at 75 or older, the person receiving a lump sum pays income tax on it like they would on other income³.

For beneficiaries, the position is similar. If you die before you are 75, your beneficiaries will usually receive any money remaining in your pension tax-free, and if you die when you are 75 or older, they will usually have to pay income tax on any money remaining when they withdraw it²¹. If it is taken as a lump sum it will be tax-free subject to your remaining lump sum and death benefit allowance²².

There is a deadline that matters. If you are under 75 when you die, your beneficiaries will inherit any lump sums tax-free, provided they claim it within two years²³. Death benefits including lump sums and inherited drawdown pensions are typically taken free of Income Tax where the individual died before age 75²⁴.

Where the protection stops

The tax-free treatment of pension cash is a rule with limits, and the limits are where most of the risk sits. The 25% figure is a maximum, not a guarantee, and it depends on the scheme rules: all types of pension scheme can pay a tax-free lump sum of up to 25% of the overall value of your benefits, provided there is provision in the scheme rules¹⁰. Some schemes allow more than the standard 25%, but the standard rule is 25%²⁵.

The lump sum allowance caps the total tax-free cash you can take across your pensions, at £268,275⁶. Once it is used, further withdrawals are taxed as income, whichever route you chose.

Drawdown carries investment risk that UFPLS does not remove either, since the money stays invested in both cases. Drawdown can provide a regular income by reinvesting in funds, but the income is not guaranteed and varies with fund performance¹⁵. You will need to pay annual charges and monitor your investments, and there is a risk your pension may not last for the whole of your retirement¹⁶.

If you are already in drawdown, providers are legally required to inform you each year of the exact amount paid in charges, presented in pounds and pence rather than percentages alone¹¹. That disclosure rule is a check on costs, but it does not cap them.

Free, impartial guidance is available. Pension Wise offers guidance on your pension options, and it is worth using before committing to a route. If something goes wrong with a provider, the Pensions Ombudsman can look at complaints, and the Financial Ombudsman Service covers many pension and investment complaints.