The inter-generational pension plan
Would you like your great grandchildren to draw on your pension fund to cover their university fees or a deposit on their first home? Pension reforms could mean that your pension plan can pass down from generation to generation.
It may sound like the latest pension scam to separate you from your retirement funds, but it’s not. Ever since the Chancellor launched his radical end-of-annuities reform (although buying an annuity could continue to be good planning for many) in last year’s Budget, there has been a question mark over how death benefits would be treated.
The rules that will apply to the death benefits for personal pensions and other money purchase schemes from 6 April 2015 will, subject to parliamentary approval (and no further amendments), be as follows:
On your death before age 75
The value of your remaining pension fund can be paid as a tax-free lump sum on your death before age 75 regardless of whether you have started to take income using the new ‘flexi-access’ drawdown rules, provided you have sufficient lifetime allowance available – generally up to £1.25 million. The flexi-access drawdown rules allows highly flexible access to the fund with virtually no restrictions – as the name suggests. Currently a 55% tax charge is levied on funds you have started to draw down, although there is no tax on so-called ‘uncrystallised’ funds on which you have not started to draw.
As an alternative, the fund will be able to provide drawdown for a dependant or other nominated beneficiary. Income payments will be tax-free to all recipients. Annuities will also escape income tax, following an announcement in the Autumn Statement.
On your death on or after your 75th birthday
The same lump sum and pension options will apply for dependants and nominees, but the tax treatment will be different. The lump sum will be subject to a flat rate tax charge of 45% in 2015/16 (and at the recipient’s marginal income tax rates thereafter). Any income will be fully taxable on the beneficiary who receives it.
On the death of a dependant or nominee using flexi-access drawdown
If your dependant or nominee (after you die) chooses flexi-access drawdown to take the income from your pension fund, then on their death the same rules based on their age when they die will apply to their residual fund; but the only way they will be able to take income from the fund will be flexi-access drawdown. And the rules will then apply again to their successors and so on down the line until your original fund is exhausted.
There are two important factors to bear in mind:
1. The ability to pass funds down through generations relies on the use of the flexi-access drawdown, rather than payment of a lump sum or the other income options.
2. The tax freedom on death before age 75 sounds more valuable than it is – if you survive until retirement, the odds are quite high that you will still be alive at age 75.
The new death benefit rules mean that your pension planning is now, more than ever, wrapped up with your estate planning. Indeed, once the legislative dust has settled, you are likely to need a combined review of your retirement and estate planning.
The value of your investment and the income from it can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. The value of tax reliefs depends on your individual circumstances. Tax and pensions laws can change. The Financial Conduct Authority does not regulate tax advice.