Pension: What happens to my pension when I die? Important tax rules to consider | Personal Finance | Finance

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Inheritance of a pension could provide significant support to those who are left behind after a person dies. While ultimately, pension saving is about providing for an individual in retirement, many people will want to help others with the funds they have managed to amass. This could be a good way for Britons to leave a legacy to help their spouses, children and even grandchildren in the future.

She said: “With a defined benefit, you get a pension based on your years of service and your earnings, and they will all provide a spouse’s pension, if there is a spouse living at the time of your death.

“They will generally provide children’s pensions if you have minors, broadly up to 18 or in full time education.

“Quite commonly, you could have someone receiving a defined benefit pension from their former employer where individuals are widowed or divorced and their children are older.

“In this case, when a person dies, their pension will die with them and there is never a fund there that is a guaranteed income for life. There, there is no complicated death benefit issue to consider.”

However, for individuals who are in a personal pension, which is perhaps more common there are different rules to consider.

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These rules hinge on a person’s age when they pass away and so should be paid attention to carefully.

Ms Ross explained: “If you’re in a personal pension or a self-invested personal pension (SIPP) most of them will allow you to draw a taxable income but you can also draw your tax-free cash on a monthly basis alongside your pension.

“With a conventional personal pension or SIPP if someone dies before age 75, the entire fund can be paid tax-free to the nominated beneficiaries.

“The important thing to remember is this: death before 75 is tax-free, death after 75 is taxable.

“But in days gone by, the fund would just be paid out to the beneficiaries. Now, under the nomination on the pension scheme, the person nominated can actually become members of that scheme or have the fund transferred to a scheme of their own.

“This is separate from their own pension saving, so let us assume they become members of the pension the person was in.

“For the person that receives the pension, if the original member died before 75, the person can receive the fund direct – and anything they draw from that is entirely tax-free.

“The tax-free cash bit if it hasn’t been drawn just goes, that won’t be there anymore, but because a person is under 75, the beneficiary can draw from it.

“Successor beneficiaries can also be nominated which means if any of this fund is left after a first beneficiary passes away, then it can continue to be used.

“This could mean children and grandchildren also stand to benefit from a person’s pension saving, and they can draw on that tax-free because the original member died at 75.”

It is also important to note pension scheme assets fall outside of an individual’s estate for Inheritance Tax purposes.

With more and more people focused on what happens to their pension for their family, this is likely to be good news.

However, there is another important change when a person passes away after the age of 75 – which is likely to have tax implications. 

Ms Ross said: “If a person dies after 75, it would be similar, but if a beneficiary needs to draw on the pension, then they will have to pay tax on it at their individual tax rate, not the rate the deceased would have to pay.

“Equally, going forward if there are successor beneficiaries, then they will have to also pay tax on the pension savings at their rate of tax. Tax-free cash goes out of the window here, which is also important to remember.”

A “best-case scenario”, then, Ms Ross highlighted, is making nominated beneficiaries successor members of the pension scheme.

This means depending on individual circumstances, a person can leave the pension fund relatively untouched so more generations could potentially benefit in the future.

But finally, it is important to note these rules could change in the future, and thus Britons should keep an eye out for updates.

Ms Ross concluded: “Things do change when it comes to pensions, and frequently. This is understandable, as governments have to raise revenue.

“However, it could create issues with forward planning, and people should bear this in mind when thinking about their pension saving.”





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