“It’s a mistake” - Why does pensions tax make correcting errors so difficult?

Everybody makes mistakes. This includes pensions administrators, employers, advisers, individual pension savers, and even (whisper it) HMRC. Nobody is 100% perfect.

So why does it sometimes seem so painfully difficult to remedy mistakes in relation to pensions?  The reasons are many and varied. 

For instance, when it comes to undoing a drafting error, schemes often end up hamstrung by protections designed to protect pension rights already earned.  This can happen even if the error gives members much higher benefits than they ever expected to receive. 

Another key obstacle is the inflexible nature of the registered pension schemes tax regime. 

“It’s got to be… perfect”

When registered pension schemes were first introduced, the policy aim was that everything would be clear and simple.  No need for schemes to have to refer anything to HMRC for approval: instead, the whole system would be set out in legislation. Everyone would know in advance what was (and was not) allowed.  The legislation would set out detailed criteria specifying what payments could be made by a registered scheme.  Anything outside those criteria would be unauthorised.

This is a praiseworthy ideal.  Taxpayers (including schemes) ought to be able to understand upfront what the tax effects of a particular transaction will be.

Unfortunately, when designing the registered scheme regime, the one thing which appears not to have been considered is how it would handle the correction of errors. 

What happens if, by mistake, a scheme pays too much, or to the wrong person, or at the wrong time? These kinds of errors usually mean that the detailed criteria for an authorised payment aren’t met.  Can such mistakes (and their tax consequences) be unwound by reversing the payment? 

What happens if a scheme makes a different kind of mistake? For example, the scheme wrongly tells a member that their retirement benefits are going to be much larger than the member is actually entitled to.  If the member makes irreversible decisions based on that information, can the scheme pay compensation without breaching the tax rules?

A similar scenario is where a scheme is overly slow in making a transfer payment. The member loses out on investment returns which would have been earned in the receiving scheme.  Compensation again seems appropriate, but can the scheme pay any?

If you had looked at the Finance Act 2004 when it first came into force, back on 6 April 2006, none of these situations were expressly catered for.  The shiny new registered pension scheme regime assumed absolute perfection.

“Fixing a hole”

When it became clear that real life didn’t quite measure up to this ideal, HMRC moved quickly to bridge some of the gaps. 

First came guidance on “Genuine errors” in February 2007, dealing with matters such as bank or clerical errors. This confirmed that (in broad terms) if such errors were promptly reversed, they would not be treated as unauthorised payments.

In 2009, regulations helped out schemes which have made overpayments of benefits in good faith. In many cases, these regulations will make past overpayments into authorised payments, meaning that schemes don’t have to try and claw them back from members. 

And in 2010, further HMRC guidance made it clear that schemes could potentially compensate a member for “distress and inconvenience” in the form of a “scheme administration member payment”.

The courts have also lent a hand recently, confirming that general equitable remedies (such as rectification or rescission) can potentially be used to help fix tax-related mistakes by undoing transactions where the tax consequences had been misunderstood.  But HMRC has to date resisted the use of such remedies, and they are in any event not always easy to obtain.

“Into the gap”

Despite these helpful fixes, there are still gaps into which schemes can fall. 

If schemes can pay compensation for non-financial loss as a “scheme administration member payment”, why can’t they pay compensation for financial loss on the same basis? HMRC seems adamant that this is not allowed, but the tax legislation does not contain any such distinction. And HMRC guidance is only ever an interpretation of the legislation: it isn’t actually law.

Even for compensation for non-financial loss, the HMRC guidelines peg the amount that can be paid to outdated practice.  The Pensions Ombudsman uprated his scale for “distress and inconvenience” awards back in September 2018, but the Pensions Tax Manual still reflects the old rates. This can leave schemes in a difficult position where compensation payments at the upper end of TPO’s new range are merited on the facts.

Past overpayments are generally adequately catered for by the 2009 regulations.  However, errors can also go the other way.  If a scheme underpays the member’s starting pension amount, it can be difficult to fix the mistake completely.  Although pension arrears can be paid, the time-limits for payment of tax-free cash as a pension commencement lump sum are short.  Once the window for payment has closed, paying the balance of the tax-free cash which the member could have been paid at retirement will be unauthorised.

In this latter scenario, schemes are definitely between a rock and a hard place.  The Pensions Ombudsman has previously required schemes to pay a top-up lump sum amount in cases like this.  And the schemes in question were also required to meet any unauthorised payment charge which arose (so that the member didn’t lose out).

Unauthorised payments aren’t the only possible headache.  Overpayments can come about because scheme rules have been misunderstood by administrators in the past.  Those mistakes can affect pensions which are currently being paid, but can equally mean that deferred pension amounts are wrong.  Often, schemes will want to amend rules to provide for the higher benefits which members have been told they are due. Granting additional benefits in this way could cause deferred members to lose the benefit of the “deferred member carve-out”, with the risk of an annual allowance charge arising. It could also (for example) result in loss of some tax protections for members who applied for enhanced or fixed protection on or after 15 March 2023.

“If I could turn back time”

A final scenario which sits within the broader category of “mistakes” is where a member makes an ill-considered decision about their benefits. 

We’ve seen this recently in the run up to both the November 2024 and November 2025 Budgets. Pre-Budget rumours that pension commencement lump sums might be cut back or removed caused many members to rush into crystallising their retirement benefits, so they could take tax-free cash whilst still on offer. 

Then, when it became clear that the Chancellor wasn’t targeting that area of pensions tax relief for Budget savings (at least this time around), members suffered “buyer’s remorse” on a grand scale.  Individuals who now regretted their decision approached their scheme to ask whether they could unwind that crystallisation, including returning benefit payments which had already been made.

You might think that pension savers ought to be allowed some kind of cooling-off period in relation to a decision as significant as how and when to take their retirement benefits.  After all, the choices made at retirement can directly affect the member’s financial wellbeing for the remainder of their life.

However, neither the FCA rules nor the tax regime currently enable members to row back from a hasty decision of this kind.  Both the FCA and HMRC issued firmly worded statements on the topic in September 2025, making it clear that unwinding of tax consequences can only happen where the FCA rules require the member to be given cancellation rights – and cancellation rights are not required in respect of a contract allowing a member to take a pension commencement lump sum.

So, although schemes can allow a member to return tax-free cash, there is little point in doing so, because the member will still have used up a corresponding amount of their lump sum allowances. Indeed, HMRC even hints that unwinding the retirement process could cause the original payments to become unauthorised – the ultimate nightmare scenario for the member and the scheme alike. Schemes will undoubtedly fight shy of running that risk, meaning the member will have to live with the consequences of a poor decision.

This isn’t an inevitable position.  Looking back at the introduction of pension “freedoms” in 2015, specific provision was made to allow members who had already bought an annuity to reverse out of that decision.  Although not a direct parallel, there is no indication that building in this flexibility resulted in any significant problems in practice either for schemes or HMRC.

Maybe I am just nostalgic for the good old days when HMRC had more room for manoeuvre, but I can’t help feeling that it would be helpful to have just a little more flexibility built into the system.  As things stand, the tax regime continues to be unable adequately to accommodate basic human frailties – mistakes, impulsivity, and poor choices.