PENSION DEATH BENEFITS CHANGES
Pension funds will receive a boost in April 2015 when the tax on certain death benefits is removed. You can now pass your entire pension fund to anyone tax-free if you die before age 75, whether you have accessed the income or not.
You will no longer be penalised for leaving money in your pension pot when you die if you use income drawdown or flexible pensions. The changes are also attractive if you plan to pass money to future generations. The final details are yet to be published, so are subject to change.
- Pension death benefits – the current rules
- The new rules from April 2015
- Summary of the changes
- Who benefits from the changes to pension death benefits?
- What to do next
Pension death benefits – the current rules
You need to consider whether you have started to take the benefits from your pension, and whether you are younger or older than age 75. The tax on death currently applies as follows.
From April 2015 you can pass 100% of your pension fund tax-free to anyone you want if you die before age 75.
– Dan Woodruff
Uncrystallised benefits (before age 75)
This refers to your pension before you start to withdraw lump sums or income from it. This is the accumulation stage before you retire.
If you die before age 75 you can pass 100% of your fund free of tax to whoever you want. Typically, you would nominate your spouse to receive this money free of tax.
Crystallised benefits (at any age) or uncrystallised benefits from age 75
Benefits are crystallised when you start to withdraw an income from your pension, or take the tax-free lump sum under income drawdown. These rules currently apply when you reach age 75, whether or not you have started to withdraw from your pension scheme.
Currently, there is an onerous 55% tax charge levied on lump sums passed to dependants.
Only dependants can continue to receive an income from your pension. This is taxable as income on the person who receives it. Typically, this would apply where you are currently using income drawdown to take an income or withdraw your tax-free lump sum. Your dependant (typically your spouse) would be able to continue to receive an income from your pension, which would be taxable.
Pension death benefits – the new rules from April 2015
The new rules have yet to be finalised, but we understand that they will apply to payments received from 6th April 2015.
Death before age 75
You can now pass your entire pension fund to anyone completely tax free under the new rules. This applies whether your pension has been accessed (crystallised) or not. Under the new rules the total fund could be passed tax-free or retained in a tax-free pension and then paid free of tax as an income.
Death from age 75
The pension fund can pass to anyone, after payment of 45% tax (a reduction from the current 55% tax). The 45% rate will be changed to be the marginal income tax rate from April 2016. The person who receives this pension income will add it to their income for the tax year, and pay tax accordingly at 0%, 20%, 40% or 45% depending on their situation.
Income will be taxed according to the tax situation of the person who receives it. The change is that you can pass this to anyone, not just your dependants.
Summary of the pension death benefits changes
|Before age 75||From age 75|
|Uncrystallised funds||Crystallised funds||Any fund|
|Lump sums||Income||Lump sums||Income||Lump sums||Income|
|Current rules||Tax free||Taxed as income to dependants only||55% tax||Taxed as income to dependants only||55% tax||Taxed as income to dependants only|
|From 6/4/2015||Tax free||Tax free to anyone||Tax free||Tax free to anyone||45% tax||Taxed as income to anyone|
Who benefits from the pension death benefits changes?
Under the current rules there is a 55% penalty to leave a fund behind when you have entered income drawdown. The only way to avoid this is for your surviving dependants to take an income from the plan. The changes will mean that a surviving dependant would be able to take all the fund tax free on your death before age 75. After age 75 the tax on the fund is reduced.
After your death your beneficiaries could leave the fund in the pension plan growing tax-free. They could take an income free of tax if you die before age 75, or taxable if you die at a later age.
Pass the fund to anyone
You will be able to pass your fund or income from it to anyone, not just dependants.
Pension plans are likely to be used to fund future generations. You can now be sure that your fund can pass to future generations free of tax, or at reduced rates. Before age 75 your family can receive all of your pension pot. After age 75 they can still access the pension plan to receive an income.
Anyone who inherits a pension plan will not have this tested against their own lifetime allowance.
What to do next
First you should review your pensions to ensure that you have nominated the correct people to receive your death benefits. These instructions may need to be reviewed after April 2015.
If you are considering taking pension income, take a look at the sections below.
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About Dan Woodruff
Certified Financial Planner & Chartered Wealth Manager at Woodruff Financial Planning
Financial Planning helps you to navigate and anticipate significant life changes. I want to help you to ensure your money is managed wisely to give you the financial security that will fund the future and lifestyle that is important to you.