Pensions are likely to form the foundation of your retirement planning – helping ensure financial freedom through your later years. But what happens to your pension pot when you die. Jack Lear, UK Financial Planning Manager, looks at what to be aware of.
Most of us carefully save into pensions for much of our working life. By the time you retire your pension might hold a significant sum, especially given recent changes to the annual allowance. Ensuring that any pension savings you’ve built up are protected and passed on as part of your estate plans is likely to be an important consideration. So what should you bear in mind?
Pensions can be a very tax-efficient way of passing on wealth, especially in the UK, as they can often sit outside of the Inheritance Tax (IHT) net. But how pensions are dealt with depends on the type of scheme you have. Different pensions have different rules which govern how your beneficiaries receive any funds. There are also added complexities – including tax penalties – which depend on your age when you die.
The first key step with any pension is making sure you have nominated your beneficiaries – those who you’ve chosen to receive what’s in your pension pot when you die. You can do this by completing a death benefit nomination or expression of wishes form, available from your pension provider.
Private pensions
Two main private pensions exist in the UK – defined benefit schemes and defined contribution schemes. Both have different rules if you die before you begin drawing down a pension.
- Defined benefit schemes – these are based on your salary along with the length of time you were employed and part of your employer’s pension scheme. Upon death they’ll typically pay your pension to your spouse or dependant partner (and sometimes your children until they reach 18 years or 23 years if they’re in full time education).
- Defined contribution schemes – these pensions operate more like an investment pot which you (and perhaps your employer) contribute into. When you retire there are a number of ways to draw down income, and different ways your beneficiaries could inherit the pension. However they may just limit your beneficiaries to take what’s left as a lump sum.
Your pension may have particular rules which govern how funds can be accessed or shared after you die. Working with a pensions expert to understand what your scheme offers is critical, so you and your beneficiaries know what to expect.
Overseas pensions
If you’ve spent time overseas and have picked up local pension schemes or a QROPS (Qualifying Recognised Overseas Pension Scheme) there may be added complexities to take account of. QROPS generally allow your beneficiary to take the pension fund as a lump sum, but some allow your beneficiary to become the main holder, drawing down the funds as and when they choose to. Any UK tax is only charged if your beneficiary is UK resident. Again expert advice here is vital.
What can my beneficiaries do?
If you’re drawing down your pension flexibly when you die, your beneficiaries will usually be able to choose how they receive any remaining funds – as long as you’ve left instructions. This gives them the freedom to continue to drawdown the pension or retain it for future generations of the family without IHT penalties.
What about annuities?
If you’ve bought an annuity, you might have questions about whether it will continue to pay out after your death. This depends on whether your annuity was a single or joint-life arrangement. If protection value is part of your arrangement your beneficiary may also receive a lump sum on your death
Passing on your pension
Pensions remain a very tax-efficient tool when estate planning, as long as you’ve nominated a beneficiary. Putting the right plans in place can ensure your beneficiaries continue to receive your pension after your death.
Our team can help you review your pension arrangements and help you understand any tax implications. To discuss any aspect of your pension planning, please contact your nearest office.
