Pensions. An important part of later life planning, and something you will have spent most of your working life building up. When you pass away, your pension will make up part of your estate, and be valued and taxed accordingly. But unlike the rest of your estate, which can be left to pretty much whoever you like, passing on your pensions is a bit trickier. Since your pension pot can be a decent sum of money, how do you go about passing it on?
State Pension Disclaimer
Before we dive in, a little note. Unfortunately, all of the information following only applies to private pensions. If you have a state pension, you can’t pass this on to your family, children or grandchildren after your death. The only way for them to benefit from your state pension is for you to make tax-free gifts while you are alive.
If Your Pension Is Untouched
If you haven’t touched your pension pot, you can leave the entire sum to your beneficiaries, provided it’s a personal pension or defined contribution pension. As long as you die before the age of 75, they will inherit all of it tax-free. You could nominate them to inherit your pension as a ‘drawdown’ account, which would give them a steady income, or they could inherit in one lump sum. You can nominate anyone, not just family, to benefit this way. Be sure you check your policy on this one though, as some older pension schemes won’t offer drawdown options. However, it’s worth bearing in mind that if you die after the age of 75, then the money will be taxed at the highest rate of income tax that your beneficiaries currently pay.
If You Belong To A Defined Benefit Or Final Salary Scheme
If you belong to a Defined Benefit or salary-related pension, then the pension scheme will usually be set up to pay a pension to the surviving widow or widower. If you would rather your children benefit from the pension then you could transfer your rights into a defined contribution agreement- though this is generally only applicable for defined benefit pensions. Bear in mind that if you wanted to this and you’re transferring more than £30,000 you’re legally required to get financial advice, and the Financial Conduct Authority recommends that you start from the assumption that giving up valuable Defined Benefits is unlikely to be in your best interests.
You Used Your Pension Pot To Buy An Annuity
If you are one of the people who used your pension pot to buy an annuity, then you will know that most annuities stop paying an income when you die. The exceptions are joint, guaranteed period and capital-protected annuities. These are all designed to continue paying out income or to provide a lump sum to an appointed beneficiary on your death, with no tax applicable to the money they inherit if you die before 75.
Tax Considerations
As with everything estate planning, you do need to take tax into account. You may know that you can take out 25% of your pension fund as tax-free cash once you turn 55. However, many people who want to leave their pension to loved ones won’t touch it at all. The problem with this approach is that if you die on or after your 75th birthday, your whole pension pot (including that 25% you could have taken as tax-free cash) will be taxed at your beneficiary’s marginal rate of income. So, in many cases, it can be more efficient to take that 25% lump sum yourself, even if you don’t really need it. You can always pass it on to your loved ones as tax-free gifts.
Let People Know
Whatever your decision, it’s always important to let someone know what your wishes are before you pass away. In the case of pensions, you don’t just need to let your beneficiaries know – you also need to supply your pension providers with the details of the people you want to benefit from your pension. This isn’t usually covered in the will, but you can write an ‘expression of wishes’ letter which will inform your executors about what you want to happen.
Pensions aren’t the simplest of things, and their rules can change frequently. That’s why it can be helpful to have an advisor on board who can help you understand the pension inheritance rules and ensure your wishes are clear to your loved ones. At GP Norgate Estate Planning we can help you understand what will happen to your pension on your death, and make sure you have a plan in place for it when that happens. If you would like to know more, book your free, no-obligation consultation today.