Earlier this year, the government announced momentous changes to the pension rules. And now there is more good news, with major changes being introduced to the tax treatment of pensions on death.
Whilst still subject to confirmation, these proposed changes will make it possible for money purchase pension funds, including those who have already gone down the income drawdown route, to be passed on to beneficiaries free of tax.
The upshot is that more investors are likely to take full advantage of their pension contribution allowances. It means that investors are now able to build up their pension fund in the knowledge that not only can they draw on their savings without the current restrictions from age 55, but also that they will be able to pass on any unused savings to their beneficiaries tax free on death.
At the moment, if someone dies aged 75 or over, without having spent all their pension funds, the money is usually taxed at 55% (unless a spouse or dependent child under 23 take an income from it).
Currently, it is only if the pension has never been touched – ie neither the 25% tax-free lump sum nor any income from an annuity or "drawdown" plan has been taken – that pensions can be passed on tax free, and even then only if the pension owner dies before the age of 75.
The new rules will see the scrapping of the 55% rate. If the pension owner dies before the age of 75, the pension can now pass on to the beneficiaries completely free of tax, whether or not the pension has been touched. There will be no tax on the transfer of the money to the new beneficiary and none to pay when he or she makes any withdrawals from the fund.
However, if the pension owner dies after the age of 75, there will be some tax to pay if money is withdrawn. The current 55% tax rate is being scrapped but there will be an income tax charge on any money withdrawn from the pension at the beneficiaries’ marginal rate or subject to a 45% tax (if the pension owner dies after age 75 and their beneficiaries take the pension as a lump sum).
With the abolition of the 55% ‘death tax’, there is now more incentive to preserve a pension fund, which has clear estate planning implications.
If you are currently in income drawdown, we believe that you should be able to benefit from the new rules from April 2015.
Obviously, this is a new development and the above represents just a broad summary of our understanding of the proposed new regime.