With annuity rates at an all time low more individuals than ever are considering pension drawdown as an alternative. Drawdown arrangements have a number of advantages. One of the key advantages for those with children and grandchildren are the death benefits in drawdown.
What happens to the remaining drawdown pension fund, and the options available to your beneficiaries varies according to age at death. In this post, we cover the rules governing pension drawdown death benefits and the actions any individual should take to ensure their wishes are acted upon with the minimum stress to family members.
Preparation Is Key
Regardless of what pension arrangements may exist It is always highly recommended that an up to date Will is in place and beneficiaries know where that Will resides and who are the executors. Even with a Will in place sorting the financial affairs of a deceased loved one can be a time consuming and stressful exercise.
It is vitally important the drawdown pension provider is supplied details of the beneficiaries and their contact details. Beneficiaries should also be made aware of their responsibility to inform the pension provider of the death of the pension holder in good time.
Beneficiaries should take their own professional financial advice but informing them of the potential ways forward, and their implications (outlined below) can minimise the possibility of any undue delays or financial mistakes that may have long-term implications. Pension funds with a value at or approaching the lifetime allowance limit require careful management.
Death Benefits In Drawdown Rules – Death Before Age 75
Should a pension holder die before age 75 whilst in drawdown then beneficiaries may take the pension (either in part or in full) as a lump sum, tax-free. They may leave the full pension (or the part remaining after taking a lump sum) and continue to take income from the drawdown arrangement, again tax-free. Finally, they may use part (or all) of the pension drawdown fund to purchase a lifetime annuity. Again, income from this annuity will be tax-free.
Death Benefits in Drawdown Rules – Death At Age 75 Or Later
If a pension holder dies after 75 whilst in drawdown the options for beneficiaries are as stated above but with one major difference – the tax implications. If the beneficiary takes the pension in part or in full as a lump sum or if income is taken from the drawdown arrangement the income will be taxed at the beneficiary’s marginal tax rate.
If the remaining drawdown pension fund is converted to an annuity any income will be taxed at the beneficiary’s marginal rate.
As an example, if the beneficiary pays the standard tax rate of 20% and the pension income takes them into the higher rate tax bracket then some of the income will be taxed at 40% and some will be taxed at 20%.
Inheritance Tax Considerations
Usually, any pension is held outside of an estate and is therefore not subject to Inheritance Tax. However, it is prudent for anyone in drawdown to have cash (in bank accounts or ISA’s) to ensure it is possible to ride out any market volatility without accessing the drawdown fund. This cash will be added to the estate and will be subject to tax if the total estate exceeds the inheritance tax limit so it should be managed carefully.
There are other potential tax pitfalls to consider but tax law is complex and subject to change so it is always wise to take professional advice when there is any doubt. The death benefits of drawdown can be a key advantage when compared with an annuity but if after a balanced analysis drawdown is a way forward then preparation is key. You may read more on pension drawdown in our free guide.
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The information in this article does not constitute financial or other professional advice. You should not take action on the basis of this article without seeking regulated independent financial advice that addresses your specific circumstances.