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Death benefits - our top five frequently asked questions
Here are the answers to some of the questions we are asked most frequently.
Who pays the income tax charge when an individual dies?
For tax year 2023/24, if the individual dies with uncrystallised benefits before age 75, these are tested against their remaining lifetime allowance. The personal representatives are then responsible for working out any chargeable amount over the remaining lifetime allowance of the deceased and reporting this to HMRC.
If paid out as a lump sum, the recipient(s) of the death benefit would then be assessed and be liable for any income tax due on the excess over the lifetime allowance. This income tax charge was previously a lifetime allowance tax charge of 55%.
If the death benefits are paid out as income (drawdown or annuity) there will be no income tax charge even on the excess over the lifetime allowance.
If the individual dies aged 75 or over, a lifetime allowance test will have already been done. Any death benefits, whether paid out as a lump sum or taken as income, will be subject to income tax at the marginal rate of the recipient.
On death before age 75 what tax is due if more than two years passes between the provider being aware of the death and the benefits being paid out?
Death benefits would normally be income tax free on death before age 75, if the deceased’s pension savings were less than their remaining lifetime allowance . If more than two years passes before they are paid out, then they become liable to income tax at the marginal rate of the beneficiary.
Why is it important to nominate beneficiaries for drawdown?
The scheme administrator can only nominate a beneficiary to receive flexi-access drawdown where there’s no surviving dependant or nominated beneficiary. If there’s a surviving dependant or nominated beneficiary, the scheme administrator wouldn't be able to pay flexi-access drawdown to anyone else; only lump sums could be paid.
On death after age 75 if there are uncrystallised benefits, what happens to the tax-free cash (pension commencement lump sum)?
On death after age 75, any death benefits are subject to income tax at the marginal rate of the beneficiary. The option to take tax-free cash dies with the individual.
If an individual directs who is to receive any benefits on their death rather than using discretion, are there any inheritance tax (IHT) consequences of doing this?
As the individual will be taking the discretion away from the scheme administrator/trustee, any benefits paid will normally be subject to IHT. If the benefits are left to a spouse or civil partner these will be exempt from IHT.
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.