Questions from technical helpline – Pensions
5 March 2018
As reports typically show more people die in the winter months than during the rest of the year, we thought we’d cover some of the more common questions we’re asked on the topic of pensions and death benefits this month.
Death benefit options
Q1. What death benefit options must any existing pension scheme offer and can they be challenged for not offering an option allowed within legislation?
A1. It is up to each scheme to communicate the death benefit options it will provide. Flexible death benefit options introduced 6 April 2015 do not apply to defined benefit schemes, and are not mandatory from defined contribution schemes.
Q2. My client died in a money purchase pension scheme which does not offer beneficiary flexi-access income options. Can the beneficiaries transfer the death benefit to another insurer/ pension scheme that does?
A2. Legislation does not allow the transfer of a death benefit. The benefits must be settled in the scheme in which they originate so if that scheme does not offer a beneficiary income option, it is not possible to achieve this.
It may be that the scheme will offer a beneficiary income option on a ‘notional’ basis which would allow the beneficiary to designate the death benefit to drawdown in their scheme and then immediately request a drawdown to drawdown transfer to another provider/ arrangement. This is sometimes referred to as ‘blink of an eye’ drawdown. This is not mandatory and will depend on each scheme’s own rules and the provider’s business processes.
Q3. Can any scheme, including a defined benefit scheme, use the permissive statutory override (Finance Act 2004, Part 4, Chapter 7, Section 273B) to offer flexible death benefits otherwise not permitted in their scheme rules?
A3. Any defined contribution scheme may choose to apply the permissive statutory override. However, no defined benefit scheme may provide flexible death benefit options.
Minimum pension age for a beneficiary
Q4. Does a pension death benefit beneficiary have to wait until they reach normal minimum pension age (currently age 55) before they can take income from dependant’s, nominee’s or successor’s drawdown plans?
A4. No. There is no minimum age for drawing an income from an inherited pension death benefit which is used to provide beneficiary drawdown.
Death benefits and the Money Purchase Annual Allowance (MPAA)
Q5. I have clients who take taxable income from their dependant and nominee drawdown plans. Have they triggered the MPAA for ongoing pension contributions to their own plans?
A5. No. Taking income from an inherited pension death benefit, used to provide beneficiary drawdown, does not trigger the MPAA.
Taxation of death benefits
Q6. My client died aged 77 leaving an uncrystallised pension fund of £720,000. Is the widow entitled to 25% of this tax free, as the client did not take their pension commencement lump sum (PCLS) before death?
A6. No. PCLS is a retirement benefit. The full £720,000 represents a death benefit and, as death occurred after age 75, the widow must pay tax at their marginal rate on any payments they receive from this.
Q7. My client died aged 73 with a drawdown pot. This will pass to her husband who elects to take dependant’s drawdown. We know income taken within the next 2 years is paid tax free but, what rate of tax is paid after the 2 year window passes?
A7. All income taken will be paid tax free until the fund exhausts or the widower dies, whichever happens first. The two year rule is not in relation to the amount of time the benefits are paid for but instead relates to the point at which the death benefit option(s) is selected and settled. In this example the two year rule is satisfied at the point the death benefit is designated to drawdown.
Q8. Following on from Q7, when the widower dies, any remaining funds will pass to his son on a successor drawdown basis. Does this continue to be paid as tax-free income?
A8. This depends on the widower’s age when he dies. This resets the tax basis. If he dies before reaching age 75, successor’s income can be paid tax free. However, if he dies after reaching age 75, then income will be taxed at the son’s marginal rate.
Expression of wishes
Q9. Why won’t my pension scheme administrator/ insurer accept an expression of wishes from me?
A9. It may be that the type of pension you have does not allow the scheme administrator/ insurer any discretion on how the death benefits must be settled. This could be the case if you have a retirement annuity contract or a deferred annuity/ section 32 arrangement.
Pension death benefits and IHT
Q10. Is it correct that pension death benefits are always outside of the deceased’s estate for IHT, and if not, when may pension death benefits be subject to IHT?
A10. There are several scenarios where IHT may apply.
IHT will apply where:
1. the estate has a direct entitlement to the death benefits, ie from plans not written under trust, or continuing annuity payments until the end of any guaranteed period etc.,
2. there is no scheme trustee/ administrator/ provider discretion allowed within scheme rules or plan terms & conditions,
and IHT may apply where:
3. the client provided a binding nomination (NB only if the scheme rules allow this). Most UK pension schemes allow members to nominate beneficiaries/ make an expression of wishes but these are generally not binding nominations. You can read more on general power over death benefits at IHTM17052,
4. certain events occurred within the 2 years prior to death; individual or their employer made a pension contribution, pension was assigned to a trust, a pension transfer took place
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