Death Benefits on UK Pensions

Dec 15, 2023 | Pensions

Taxation of Benefits on Death

When it comes to our money, it’s not just about today. It’s crucial to consider not only our financial well-being but also the legacy we leave behind for our loved ones.

Understanding the taxation of benefits on death, especially in the context of Defined Contribution Schemes, is essential. This article delves into the intricacies of inheritance, tax implications, and various scenarios to give you the knowledge to make informed decisions.

Defined Contribution Schemes and Inheritance

Defined Contribution Schemes offer a valuable avenue for retirement savings. What’s often less discussed is how these funds can be inherited by individuals after the original account holder’s demise. Here’s a breakdown of the key aspects:

  1. Nominee’s FAD Fund and Successor’s FAD Fund
  • Any individual can inherit unused drawdown funds or uncrystallised money purchase funds upon the member’s death.
  • Funds can be used to provide a drawdown pension or a lump sum death benefit.
  • Non-dependants inherit a nominee’s FAD fund.
  • Beneficiaries can pass unused drawdown funds to a successor, who can use them for a drawdown pension (successor’s FAD fund) or as a lump sum death benefit.
  • Multiple beneficiaries can be nominated.
  • The treatment of pension death benefits depends on the age at the time of death.
  1. Death before 75
  • Payments to a nominee are tax-free, whether taken as a lump sum or accessed through drawdown.
  • Funds must be designated to an income-producing contract or paid as a lump sum death benefit within two years to remain tax-free.
  • The pension fund can be taken tax-free at any time, in instalments or as a lump sum.
  • Tax implications may vary if the beneficiary resides outside the UK.
  1. Death on or after 75
  • Beneficiaries can inherit and utilize the remaining pension fund under pension flexibility rules.
  • The income drawn from the fund is taxed at the beneficiary’s marginal rate.
  • Alternatively, the fund can be taken as a lump sum, with a tax charge based on the beneficiary’s marginal income tax rate.
  1. Ill Health
  • In cases of ill health, individuals can access pension benefits before the age of 55.
  • Specific criteria and evidence from a registered medical practitioner are required.
  • Serious illness may allow for the commutation of uncrystallised pensions into a tax-free, serious ill-health lump sum, subject to age restrictions.
  1. Refund of Benefits
  • Members leaving a DB pension scheme within two years of joining may receive a refund of contributions if allowed by scheme rules.
  • DC scheme members joining after October 1, 2015, may receive a refund if they leave within 30 days.
  • Taxation rates for refunded contributions vary based on specific thresholds.
  1. Preserved Benefits
  • When leaving a pension scheme, individuals can choose to transfer their pension to another arrangement or leave it where it is.
  • DC fund value, including employer and employee contributions, constitutes the preserved benefit.
  • Consider the range of income options offered by the scheme when deciding whether to transfer or not.

Consulting with an Adviser at SJB

Understanding these rules isn’t always easy. We always recommend speaking to an adviser at SJB who will be able to explain what the death benefits are in your pensions. They can provide personalized guidance, analyze your pension statement, and align your objectives with the most suitable arrangement.

In the end, knowing how taxes work on inherited pensions is essential for taking care of your family’s financial future. By learning these simple rules and talking to experts when you need to, you can make sure your money goes where you want it to, even after you’re gone.

This communication is for informational purposes only based on our understanding of current legislation and practices which are subject to change and are not intended to constitute, and should not be construed as, investment advice, investment recommendations or investment research. You should seek advice from a professional adviser before embarking on any financial planning activity. Whilst every effort has been made to ensure the information contained in this communication is correct, we are not responsible for any errors or omissions.

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Schedule an Obligation-free Call With an Adviser

By scheduling an appointment with an adviser they will reach out to you at your requested time. 
Personal advice, whenever it suits you.

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