Chancellor George Osborne has announced another significant change in pension legislation. Not only will the members of defined contribution pension schemes have freedom to withdraw their entire pension funds, should they choose to do so from April 2015, but if they die before age 75 they can now pass any funds remaining to whomever they want ……….completely free of tax!
So, let’s imagine Joe, who’s a widower and aged 74, has been taking drawdown from his pension fund for the last 10 years. There’s around £200,000 left in the pension pot. He was careful enough to make sure that he nominated the benefits of his pension in the event of his death to his only son, Pete so there would be no liability for Inheritance Tax.
If Joe dies, under the existing rules Pete would receive an amount, net of 55% tax, of £90,000. The 55% tax would apply at whatever age Joe dies because he has taken benefits across his full pension pot.
Under the new rules, Pete would have access to the full £200,000! There’s no 55% tax applicable if Joe dies before age 75. Pete can even leave the pension fund intact and just draw the income out as and when he needs it. So not only will he get any withdrawals tax-free, but he’ll also benefit from the usual tax advantages of holding money in a pension plan!
If Joe dies after he has reached the age of 75, Pete again has the option of leaving Joe’s remaining pension pot as it is, and drawing down from it, or taking all of the money out. This time, any regular withdrawals he takes will be added to his income in that tax year and he could be liable for Income Tax. Depending on his other income this could be up to 45%. If he takes all the money out in one lump sum this will all be taxed immediately at 45%.
Pete is a very wealthy man in his own right and his estate is valued in excess of £1m. As long as the pension fund remains as such after Joe’s death, even if Pete is the nominee, it will never be treated as part of Pete’s estate for Inheritance Tax purposes!
If Joe suddenly decides that he doesn’t want Pete to benefit from his pension fund, then he has the ability to nominate an alternative beneficiary for the funds. It doesn’t even have to be a relation; he can choose whomever he likes. Joe should make sure that he writes his wishes down and sends these to the trustees of the pension scheme. Although this isn’t binding, it will provide some guidance when they make their decision as to who benefits in the event of Joe’s death.
There are still a few queries around how this will work in practice: can the pension benefits be nominated to a trust, and what tax treatment would be applied; what happens to the fund if the initial named beneficiary dies, if the named beneficiary asks for the capital to be paid to another party is that allowable; and would it act as a gift by the original beneficiary for Inheritance Tax purposes? And what happens to the pension funds which have already been inherited by the spouse of the original member? Can they benefit from the new rules too? Would pension transfers be allowed from the inherited pension fund and who would be given advice regarding this?
Despite the need for further clarification, this is a massive opportunity for people to have some real control over their pension funds! We expect more will follow in the Autumn Statement due on the 3rd December and will keep you informed.
It’s time to review your plans now and make sure that you can raise a glass to 2015 knowing you have everything in place to take advantage of the new rules and protect your loved ones!
Picture courtesy of M. Holland