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Death Benefits - frequently asked questions
Death benefits - general
Can pension death benefits be paid to a trust?
Yes. On death before age 75 benefits would pass to the trust without any tax deducted. On death after age 75, the provider will deduct a tax charge of 45% (known as a special lump sum death benefit charge). Beneficiaries can off-set the tax paid on the lump sum death benefit by the scheme administrator against the tax due on this trust payment. This may lead to a refund of tax.
Why is age 75 important for death benefits?
If an individual is under age 75 when they die, the fund will pass on completely free from income tax to any nominated beneficiary as a lump sum, drawdown pension or annuity.
It’s worth remembering that a dependant’s scheme pension is still liable for income tax, irrespective of the age at death. A lifetime allowance check is made on uncrystallised funds, unless they’re being used to provide a dependant’s scheme pension, as this is not a benefit crystallisation event.
If an individual is over age 75 when they die, the tax charge on any income or lump sum payment is at the recipient’s marginal rate of tax.
HMRC Pensions Tax Manual PTM073100: Taxation of a defined benefits lump sum death benefit
HMRC Pensions Tax Manual PTM073200: Taxation of an uncrystallised funds lump sum death benefit
HMRC Pensions Tax Manual PTM073500: How a drawdown pension fund lump sum death benefit is taxed
HMRC Pensions Tax Manual PTM073600: Taxation of a flexi-access drawdown fund lump sum death benefit
HMRC Pensions Tax Manual PTM072110: Death benefits: types of pension: dependants' scheme pension: How a dependants’ scheme pension is taxed
Does the 2-year rule still apply?
Most tax-free lump sum payments, where the individual dies under 75, must be made within two years of the scheme administrator being notified of the death of the individual (or the date the scheme administrator could first reasonably have been expected to know of the individual's death). Any payments to an individual made after the 2-year period is taxed at the recipient's marginal rate of tax, but there is no lifetime allowance test on these payments.
HMRC Pensions Tax Manual PTM073100: Taxation of a defined benefits lump sum death benefit
HMRC Pensions Tax Manual PTM073200: Taxation of an uncrystallised funds lump sum death benefit
HMRC Pensions Tax Manual PTM073500: How a drawdown pension fund lump sum death benefit is taxed
HMRC Pensions Tax Manual PTM073600: Taxation of a flexi-access drawdown fund lump sum death benefit
Does the lifetime allowance still apply?
Yes. If the 2-year rule doesn't apply, and an individual’s pension hasn't already been tested against the lifetime allowance when the individual dies, it is tested before being passed on.
HMRC Pensions Tax Manual PTM088100: The benefit crystallisation events (BCEs) in brief - 5C and 5D
Does an annuity have to be paid to a dependant?
No, joint-life annuities can be paid out to any beneficiary, if this is agreed when the annuity is bought. If an individual dies under the age of 75 with either uncrystallised rights or unused funds remaining in a drawdown pension, a beneficiary's annuity bought with the funds is paid tax-free.
However, the above does not currently apply to scheme pensions. This means that the payment of a dependants’ pension paid from a defined benefit scheme will continue to be taxed at the dependant’s marginal rate, regardless of the age of the individual when they died.
HMRC Pensions Tax Manual PTM072200: Death benefits: types of pension: beneficiary's annuity
HMRC Pensions Tax Manual PTM072110: Death benefits: types of pension: dependants' scheme pension: conditions
Is there a maximum guaranteed period for an annuity?
No, annuity payments can be guaranteed for any period if this is agreed when the annuity is bought.
HMRC Pensions Tax Manual PTM62400: Guaranteeing a lifetime annuity contract
If a dependant’s annuity was being paid before 6 April 2015 will the payments become tax-free after 6 April 2015?
No, the annuity continues to be subject to income tax.
HMRC Pensions Tax Manual PTM072200: Taxation of a beneficiary’s annuity
Death benefits - nominating beneficiaries
Death benefits - nominating beneficiaries
Here are some of the more frequently asked questions we've been asked about nominee flexi-access drawdown and successor flexi-access drawdown.
The individual wants the death benefits to be paid to their spouse (if the spouse is still alive) in the form of a nominee flexi-access drawdown. On the death of the spouse they want successor flexi- access drawdown to be paid to the children. Can the individual state in the nomination form that this is what they want to happen?
The individual can't dictate what form of death benefit the spouse can receive; nor can they influence what happens on the spouse's death.
All the individual can do is state who they'd like death benefits to be paid to on their death. If the scheme administrator is using their discretion, they use this information as a guide when deciding on the beneficiaries.
What format the death benefits take is down to the beneficiary who will choose from the options the scheme offers. If they choose flexi-access drawdown, they will be asked who they want any remaining funds to be paid to on their death.
If each succeeding beneficiary chooses nominee or successor flexi-access drawdown, it's possible for the death benefits to pass down the generations. However as each generation can withdraw as much or as little as they like, the number of generations receiving benefits is likely to be limited.
Does the individual need to allocate a percentage to each nominee?
They do if they want the death benefits split in these proportions.
However if they're nominating, say the children so that they can be offered the option of flexi-access drawdown, it would be less confusing to state the reason for nominating the children on an attached piece of paper.
The next question gives an example of when it might be useful to do this.
If the spouse has been nominated but says they would rather the death benefits were paid to the children, could the children have the option of flexi-access drawdown?
If they were dependent on the individual, they could. If they weren't dependent on them, this option would only be available if the individual had nominated them.
Non-dependent children who haven’t been nominated could only be paid a lump sum death benefit.
So if an individual wants non-dependent children to have flexi-access drawdown as an option while a dependant is alive, they will need to be nominated.
If the individual does want non-dependent children to be given the option of flexi- access drawdown, how should the nomination form be completed?
The nomination form is being used for two purposes.
- One is to tell the scheme administrator how they want death benefits to be split on their death (if in fact that's what they want to happen).
- The other is to nominate a beneficiary so that they can receive nominee flexi-access drawdown if need be.
The individual can explain their wishes on a separate sheet of paper attached to the nomination form.
Why is it important for an individual to nominate a beneficiary for drawdown?
A dependant or named beneficiary can choose to take their benefits as nominee or successor flexi-access drawdown. The scheme administrator can only nominate a beneficiary to receive flexi-access drawdown where there is no surviving dependant or named beneficiary. If there is a surviving dependant or member nominee, the scheme administrator wouldn't be able to pay flexi-access drawdown to anyone else; only lump sums could be paid.
Apart from being good practice, it is imperative that an individual nominates and keeps their nominated beneficiaries up to date if they want them to have access to all death benefit options available under the scheme including flexi-access drawdown.
Disclaimer
The information provided is based on our current understanding of the relevant legislation and regulations and may be subject to alteration as a result of changes in legislation or practice. Also it may not reflect the options available under a specific product which may not be as wide as legislations and regulations allow.
All references to taxation are based on our understanding of current taxation law and practice and may be affected by future changes in legislation and the individual circumstances of the investor.