So who’d have thought it… the government is yet again showing a generous heart to pensioners by absolishing the 55% tax rate that is applied to most pension savings upon the death of an individual. Many people will not fully understand the implications of this, but this is big news, and now with the new ‘workplace pension legislation’ fully in force, this change in legislation will affect the majority of UK individuals at some stage.
The new legislation will have major consequences in many areas. As always with any change in legislation, there are key questions that derive from the change. These include; the impact on other types of pensions (i.e. Final salary), annuities, and of course the impact on inheritance tax and inheritance tax planning.
For now, CB Benefits have constructed this helpful guide to deal with the base level information to help you understand the changes.
So what is exactly changing?
Currently, pension savings are taxed at 55% if:
- You die over the age of 75 regardless of whether you have or haven’t started taking your pension benefits.
- You are between the age of 55-75 and have started *taking benefits from your pension. If you die without having taken pension benefits then this can still typically be passed to the beneficiary tax free.
*Taking benefits from your pension is in financial terms typically classed as a crystallisation event. A Benefit Crystallisation Event happens when the pension rights that have been built up by an individual are realised. This occurs most commonly through the start of a pension benefit or where a lump sum benefit is paid (source HMRC http://www.hmrc.gov.uk/manuals/rpsmmanual/rpsm00501400.htm)
From April 2015, the 55% pension death tax is being abolished should you die after you have already taken pension benefits before the age of 75. If you have taken pension benefits and you die after the age of 75, then the rate of tax due on the pension fund will be determined by the income tax of the beneficiary.
Here’s a helpful table to summarise the change:
CB Benefits final thoughts
Where pensions are concerned, one of the biggest misgivings that clients voice over and over again is the disproportionate (some would say draconian) way in which they are taxed upon death if you die after having already started taking pension benefits. As advisers, we clearly communicate the numerous benefits that pensions provide and we believe for the majority of individuals, pensions should be a part of their retirement provision. It is however fair to say that most advisers will prefer the communication of pensions once this new legislation has come into force. Moving forward, this will change the landscape of advice. Here are a few areas to look out for when speaking with your adviser:
- Inheritance Planning – Individuals can start using their pension for effective Inheritance planning. Calls have been made previously to reduce the 55% tax rate. Experts have argued that the current rate is not proportionate. However, no-one quite saw this level of reduction coming though!
- Annuities – Will this be a further nail in the coffin of annuities? Annuities have long been the ‘norm’ for many people retiring but with annuity rates already low, and also being hit last year by the change in legislation which says individuals can access all of their fund as a lump sum in retirement, will these further changes make annuities all the more unattractive?
- Final Salary scheme – “Shall I transfer my final salary pension?” Transferring a final salary pension has often been an area that advisers do not want to get involved in, and the general advice has been to leave them where they are. The new legislation does however increase the possibility of individuals wanting to transfer out of their final salary schemes for the simple reason, most final salary schemes income stops on the death of the owner and their spouse.
- Lifetime Allowance of 1.25m – Currently, savers have to pay tax of at least 40% on any money in a pension plan above the lifetime allowance of £1.25m – or 55% in some cases. But new rules that will allow pensions to be inherited tax-free mean that the effective rate of tax on excess savings will fall to just 25%, although there will be additional tax to pay by certain beneficiaries.