20 Aug

Pension Reforms Make Inheritance More Attractive


Using a pension to pass retirement wealth on to younger generations has become more attractive, thanks to pension reforms that came into force this year.

Until just a few months ago, in the UK it was only possible to pass on a pension pot to heirs without being subjected to a punitive “death tax” if you died before age 75 and had not touched the funds. If you had drawn on your retirement pot, or were aged over 75, then a little more than half, or 55 per cent, of the fund would be subjected to tax. But wide-ranging reforms introduced in April mean there is now greater opportunity for an entire pension pot to pass through the generations, or to other beneficiaries, tax free — or at a less punitive tax rate. Wealth managers say the changes, introduced by the UK Coalition government, have been welcomed by those looking for inheritance tax planning opportunities. Under new rules, if the pension fund holder dies before age 75, a beneficiary can inherit some or all of the fund as a lump sum, or income from drawdown tax free, up to the Lifetime Allowance, currently £1.25m. If the death is at, or after, age 75, any beneficiary receiving a lump sum will pay 45 per cent tax until next April, or tax at their marginal rate, if the fund is paid as income, not a lump sum.

After April 6 next year, the pension pot that is inherited will be taxed at the recipient’s marginal rate. Wealth managers say the reforms are changing how individuals tap into their assets in retirement. However, not all pension policies are covered by more death tax changes. The changes fully apply to income drawdown policies, such as self invested personal pensions, capped drawdown or flexi-access drawdown, but only partially extend to annuities. Only annuity policies where the policyholder has opted for value or capital protection, which comes at a cost, will be covered by the death benefit changes.

Otherwise, any residual funds left in an annuity pot when the annuitant dies will pass to the insurer. Changes that also came into force this April mean a policyholder has full freedom to designate who benefits from their pension pot. Advisers say that it is now important for policyholders to ensure the intended beneficiaries of their pension wealth are named on the death benefit nomination declaration.

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