Josh Croft, senior technical consultant at AJ Bell, explains why pension nomination and expression of wishes forms could save your clients’ beneficiaries significant IHT liability.
Pension funds for most people will be one of their biggest assets and the death benefits associated with these funds can provide comfort to a client that should they die, these funds can be passed on in an efficient way, free of inheritance tax (IHT) to someone of their choosing.
Some clients may be confused that when completing a nomination of death benefits form there will be a statement to the effect of ‘the trustees of the scheme will give every consideration to your wishes but the nomination is not binding’. Expression of wishes forms will in most cases be non-binding, and the scheme administrator or trustees will have the final discretion over who to pay the death benefits to, which may add to the uncertainty for clients.
But this is an important requirement because if a nomination is made where the provider is bound to comply, this will mean that the amount of the payment falls within the client’s estate and will therefore be liable for IHT. HMRC’s reasoning for this is that a binding nomination gives the member ‘a general power that enables them to dispose of the property’, essentially if a member can direct where the benefits are paid then IHT could be payable.
Using discretion
Trustees will use this expression of the member’s wishes to guide their decisions, but are also obliged to consider all other relevant information before deciding who to distribute benefits to.
This power of discretion can be helpful to the client and beneficiaries aside from the IHT exemptions, as the scheme administrator or trustee is able to assess the situation in full at the time of death. Nomination forms could be based on circumstances from years ago meaning the benefit wouldn’t necessarily be paid to the correct people when the client dies, after a divorce and re-marriage to take one example. Discretion gives scheme administrators/trustees the ability to make sure the right people receive the funds.
But this discretion can cause issues for scheme administrators and trustees who can unwillingly get drawn into family disputes at a sensitive time and may end up having to rule in favour of one side over the other. The scheme trustee’s discretion and how it is exercised can be challenged and taken to the Pensions Ombudsman and in some cases the courts, creating the potential for the process being even more drawn out.
Removing the uncertainty
It is possible to argue that a simpler solution to this whole process would be for the Treasury to change the rules so that pensions are given a blanket exemption from any IHT regardless of who decides on the beneficiaries. The complexity of pension rules already hinders consumer understanding and simplification in this area would provide more confidence in pensions.
Under the rules as they are the lack of certainty could be alarming for some. However, the retention of the pension’s tax privileged status after death should hopefully outweigh this. In the absence of any rule changes the key takeaway for clients will be to regularly review their nominations particularly after family events. Having an up to date nomination makes it easier for administrators and trustees to distribute the funds as their decisions are less open to be challenged, so it’s therefore more likely the client’s wishes will be followed in this scenario.
