The UK government has announced plans to overhaul the tax treatment of defined contribution (DC) pension funds and the way savers can begin the decumulation of pension pots.

Following in the footsteps of the Australian DC market, the UK government has removed the tax surcharge for DC members wishing to withdraw their full savings, charging only the normal income tax rate.

Previously, savers wishing to access their full DC pot were subject to a 55% tax charge, with only 25% of the value of the pot allowed tax-free.

The government, which previously had capital rules in place on allowing savers to access retirement products other than annuities or capped drawdown, has also removed these restrictions.

It said the new system would offer consumers greater flexibility to choose between retirement options of annuities or drawdown, or to use a combination of the two.

However, it also said it recognised expanding the choice meant consumers might struggle to navigate retirement finance markets, and committed to providing a guarantee for all DC savers to receive free, impartial guidance at the point of retirement.

The government is also set to consult with the UK pensions industry on whether the flexible and more open at-retirement reforms should be extended to members saving in defined benefit (DB) vehicles.

It admits it will need to proceed on this option with caution and that, in most cases, DB savers are likely to benefit by remaining in their scheme.

Budget documents said the government expected little impact on the investment strategy of DC schemes, but it added that the stock of assets held by DB schemes would be affected if members were permitted to transfer.

“Given that the stock of defined benefit liabilities and assets exceeds £1.1trn (€1.3trn), even relatively small changes to this stock could have a significant impact on financial markets,” it said.

“The government is concerned that a large-scale transfer (or anticipated transfer) of members of private sector DB schemes to DC schemes could have a detrimental impact on the wider economy.

“Whilst the government would, in principle, welcome the opportunity to extend greater choice to members of private sector defined benefit pension schemes, it will not do so at the expense of significant damage to the wider economy.”

With any impact on DB schemes still to be determined, the government said it would also consider legislating to remove the right for DB members to transfer into a DC scheme entirely, barring exceptional circumstances.

The UK chancellor, George Osborne, announced the reforms in his annual Budget speech to Parliament.

He said the transformation of DC tax treatment would bring it into the modern world, and rejected the argument that UK pensioners could not be trusted with their own savings.

“There will be consequential implications for defined benefit pensions upon which we will consult and proceed cautiously, so the changes we announce will not today apply to them,” he said.

“Pensioners will have complete freedom to draw down as much or as little of their pension pot as they want, any time they want.”

The reforms will require an Act of Parliament, which will be presented before the next general election and be in place by April 2015, the Chancellor confirmed.