Pension death benefits

1. Benefit types

Broadly, there are three main types of death benefits available under a money purchase pension scheme:

• lump sums
• flexi-access drawdown
• annuities

You should check with your client’s pension provider to see what is available under their scheme rules as they may offer less than what is available. Quilter offers all three options, although beneficiaries choosing an annuity will be required to purchase it with another provider.

2. Who can receive a death benefit?

Lump sums

Under legislation, there is no limitation on who can receive a lump sum death benefit. However, generally schemes will define who can receive lump sums in their scheme rules.

Under the Collective Retirement Account the following people can receive lump sums:

• Any person or entity nominated by the member (normally on an expression of wish)
• Any of the member’s ‘dependants’
• Any descendant or step descendant of the grandparents of the member, member’s spouse or civil partner
• Any person named as entitled to part of the estate in the member’s Will
• The legal representative who will then distribute in line with the rest of the estate
• Any trust which is for the benefit of any of the above

Beneficiary’s Flexi-access drawdown and annuity

The word ‘beneficiary’ is the collective term for a dependant, nominee or successor. Under legislation only a ‘dependant’,  ‘nominee’  or a ‘successor’ can have the option of beneficiary’s drawdown or beneficiary’s annuity.

4. Where tax is due how much is it?

The amount of tax due depends on who receives the benefit (individuals or non-individuals) and the circumstances that make it taxable.

In summary:

5. Who accounts for the tax?

Where a benefit is taxable because the member died 75 or older, or the benefit is not finalised within 2 years, the scheme will deduct tax and pay it to HMRC.

Where a member dies under age 75, any lump sums paid within 2 years, will be paid by the scheme without tax deducted. It is then the responsibility of the legal representative to work out if the total of all lump sums paid out are within the deceased’s remaining ILSDBA. If some or all of a lump sum is taxable because it exceeds the deceased’s remaining ILSDBA, the legal representative will need to report this to HRMC. HMRC will then liaise with the beneficiary about any tax due.

6. IHT

Where a pension scheme has discretion over who to pay death benefits to, those benefits are generally outside of the estate. They will not be taken into account for IHT. The exception is, when a member is in ill health, transfers their pension and dies within two years. In that circumstance HMRC may consider part of the value of the pension within the estate for IHT purposes.

A scheme may have scheme rules that require death benefits to be paid as a lump sum to the estate. As there is no discretion exercised in this scenario, those death benefits form part of the estate for IHT purposes.

It is also possible for a scheme to offer the ability to make a binding nomination. A binding nomination means there is no discretion as to who receives death benefits. So those death benefits will form part of the estate for IHT purposes.

7. Why is an expression wish important?

An expression of wish will allow your client to make a nomination that the scheme administrator/trustee takes into account when deciding who will benefit from remaining pension funds. If your client wants specific people to receive money from their pension when they die the more information they supply the scheme with the easier it is for the scheme administrator/trustee to make their decision.

It is crucial to allow all the death benefit options because, as mentioned earlier,  beneficiary drawdown/annuity is only available to dependants and nominees. Since there is no assessment against ILSDBA for beneficiary drawdown or annuity, opting for these options tends to be more tax-efficient for beneficiaries compared to receiving lump sums. So, for clients with large pension funds, an expression of wish is extremely important, and it is also good practice for all clients no matter their fund size.