We all know that we can’t take our wealth with us. Most of us make a will so that we can be certain what will happen to our homes, investments and cash in the bank when we have no further use for them.
But what about our pensions?
Why people forget about their pension
Naturally, your entitlement to a state pension will die with you, although your spouse might be able to benefit from an increased payment. In the past, when a private pension pot had to be converted to an annuity, this would usually end with you too.
But the world of pensions has moved on, even if the way many of us think about pension wealth has not. It’s important that you understand the possibilities and the rules and regulations involved, because your pension can form an important part of your estate. It could have a big impact not just on your beneficiaries, but on the liability of your estate for Inheritance tax (IHT) purposes.
The death benefits from a pension plan will depend on whether you have retired, and started to take retirement benefits, and on how you have structured the plan.
If you die with money in your pension pot
If you die before taking anything from your pension, in many cases the entire value of your pension fund can be paid to your beneficiaries. This is a valuable death benefit that is often overlooked when planning your family’s financial protection.
If you die before the age of 75, and your pension pot is less than the Lifetime Allowance (£1 million in the 2017/18 tax year), it will be paid to your beneficiaries tax-free. They can choose to receive it as a lump sum, an annuity, or through flexi-access drawdown.
If you die after the age of 75 your beneficiaries can take the money in cash, which is currently subject to income tax at the beneficiaries’ marginal tax rate. They can also choose to convert it to a flexi-access drawdown plan, or an annuity, both of which will be taxed as their income.
In most cases, there will be no IHT to pay.
If you die with money left in your flexi-access drawdown
A flexi-access drawdown means you have a pension pot that remains invested, allowing you to draw an income as you need it. The position is much like having an intact pension pot. Your beneficiaries have several options – again depending on your age at death.
If you die before 75 they can take the money as a tax-free cash lump sum, stay in flexi-access drawdown or buy an annuity. The income from it will be tax-free. If you die aged 75 or older, they can stay in flexi-access drawdown, buy an annuity or take cash, all of which will be subject to tax.
What about annuities?
Annuities used to be the only way to use a pension pot, and could give rise to some unfairness. Whether you died one year after retiring or forty, the money in your pension pot was gone, and the annuity would cease.
You could select a guarantee period or a joint life option when you set up your annuity. This means any funds left in the annuity will be passed on to loved ones for either a set period – or for the rest of their lives.
Changes to come?
Most people don’t understand the position on tax, which has led for calls for an IHT exemption on pension death benefits when they die.
Some may assume the funds are lost forever. Others believe they will automatically go to their nominated beneficiary, although most people have not actually nominated who their pension beneficiary should be.
What should you do?
The best answer for the question of who should receive your pension wealth will depend on you and your family circumstances. Ensuring that they can receive it can form part of your estate planning.
For the help you need to ensure your pension can go on providing for your loved ones after you are gone, call the Continuum team.
A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available.
The Financial Conduct Authority does not regulate Estate Planning, Tax or Trust advice.