INCOME DRAWDOWN DEATH BENEFITS

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INCOME DRAWDOWN

DEATH BENEFITS

Technical Information

For pro fessional advisers

Pension P

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It’s now easier than ever for your clients to pass on any remaining money in their personal pension or income drawdown plan when they die.

From 6 April 2015, whether death benefits are taxed or not depends on death occurring before or after age 75.

Anyone can be nominated as a beneficiary. And when a beneficiary dies, any remaining funds can be passed onto further nominated beneficiaries, until it eventually runs out.

Death benefits can be paid at the discretion of the scheme administrator or at the client’s direction and can be taken in any combination which includes:

•

lump sum

•

annuity

•

drawdown

If any tax needs to be paid by the beneficiaries, it will depend on the age at which death occurs and how the beneficiaries choose to receive their benefits.

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LUMP SUM

Death before age 75

The full value of the Pension Portfolio and/or Income Release plan will normally be paid free of income tax to the chosen beneficiary/beneficiaries.

If the client wants the scheme administrator to use their discretion, they’ll use the nomination form to express their wishes as to which beneficiary the benefits should be paid.

If the client wanted the benefits to be paid at their direction, the scheme administrator will pay them to whoever is detailed on the nomination form.

Any lump sum payment must be paid within two years from when the death occurred. If it’s not, a 45% tax charge will be paid on the lump sum.

Death after age 75

The value of the Pension Portfolio and/or Income Release plan can be paid to the beneficiary(s) as a one-off lump sum taxed at 45%. The tax rate is changing to the beneficiary’s marginal rate of income tax from 2016/17.

ANNUITY

Any beneficiary can use their death benefits to buy an annuity. From 6 April 2015, they don’t have to be a dependant of the member.

If death occurs before age 75, the beneficiaries will receive their payment free of income tax. If the death occurs on or after age 75, any benefits will be taxed at the beneficiaries marginal rate of tax.

A lifetime annuity is used to provide an agreed level of income for the remainder of the beneficiary’s life. The level of income is fixed at the outset of the contract and:

•

may be purchased from an insurance company of the beneficiary’s choice

•

must be paid at least once a year, either in advance or in arrears

•

may stay level or increase.

For annuities bought after 6 April 2015, some of these restrictions have been removed. Although a lifetime annuity must still be payable for life by an insurance company:

•

it can decrease

•

it can continue to be paid after the member’s death within a guaranteed period of any length.

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DRAWDOWN

If the deceased client’s existing pension plan supports nominee and successor flexi-access drawdown, the beneficiaries can choose to receive their benefits as drawdown.

An income drawdown plan allows a dependant, nominee or successor beneficiary to receive income directly from the pension fund. If the beneficiary selects this option they can receive as much or as little income as they want from the pension each year.

If death occurs before age 75, withdrawals will be paid tax free. If death occurs on or after age 75, withdrawals will be taxed at the beneficiary’s marginal rate of tax.

Before the beneficiaries decide how they want to take their benefits, it’s important they discuss this with a financial adviser.

Nominee key points:

•

Clients can nominate an individual who is not a dependant to receive a nominee flexi-access drawdown.

•

If the client’s already completed their nomination form and they’ve nominated a surviving partner, individual or charity to receive their benefits, the scheme administrator can’t use their discretion and choose to pay drawdown to a nominee of their choice.

•

No tax-free cash can be taken from a nominee flexi-access drawdown.

•

No additional payments can be made to a nominee flexi-access drawdown.

•

If the holder of the plan dies before age 75, the nominee/successor will receive their income payments tax-free. However if the holder dies after age 75, the nominee/successor income payments will be taxed at their marginal rate.

•

Any income payments made from a nominee flexi-access drawdown plan will not trigger the Money Purchase Annual Allowance (MPAA).

Successor key points:

•

If in the event of the client’s death their benefits are paid to a nominated beneficiary who is a dependant or a nominee, on their death the benefits can be passed down as a successor flexi-access drawdown.

•

If the dependant, nominee or successor nominates an individual or a charity to receive their benefits, the scheme administrator can’t choose a successor.

•

No tax-free cash can be taken from a successor flexi-access drawdown.

•

No additional payments can be made to a successor flexi-access drawdown.

•

If the holder of the plan dies before age 75, the successor will receive their income payments tax-free. However if the holder dies after age 75, the successor’s income payments will be taxed at their marginal rate.

•

Any income payments made from a successor flexi-access drawdown plan will not trigger the MPAA

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EXAMPLE

To show how nominee and successor flexi-access drawdown can be used to pass on pension benefits through generations, we’ve put together the following scenarios. Within this example, we’ve assumed Royal London is the scheme

administrator, using our discretion when paying pension benefits.

Scenario 1 – Death occurs without completing a nomination form and member has no dependants.

•

Andy dies leaving no surviving

dependants.

•

We’ll decide who to pay the benefits to.

•

Benefits can be paid as an annuity, lump sum or flexi-access drawdown.

Annuity

A LS Lump sum FAD Flexi-access drawdown

KEY

Scheme Administrator Laura Billy Toby Danielle A LS FAD A LS FAD LS Stan Annuity

KEY

Andy (Deceased) Scheme Administrator

Billy Danielle A LS FAD A LS FAD LS A LS FAD Annuity

KEY

LS

Jane Annuity

KEY

A LS FAD

Scenario 2 – Death occurs without completing a nomination form but there is a surviving spouse.

•

Andy dies without completing a nomination form.

•

If we decide that his wife Jane is the most

appropriate person to receive his pension benefits, they can be paid as a lump sum, an annuity or a dependant’s drawdown.

•

If we thought there was someone more appropriate to receive the pension benefits, we could only pay them as a lump sum death benefit.

•

If Andy died having nominated his wife Jane as a beneficiary, we could pay the benefits as an annuity, lump sum or flexi-access drawdown to her. If we felt someone else was a more appropriate beneficiary, we could only pay them a lump sum.

Annuity

KEY

Scheme Administrator Laura Billy Toby Danielle A LS FAD A LS FAD LS Stan Annuity

KEY

LS

KEY

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Scenario 3 – Death occurs with no surviving spouse but the children are detailed on the nomination form.

•

Andy dies a few years after Jane and he’s nominated their children Billy and Danielle as beneficiaries on the form.

•

If we thought that Billy and Danielle were the most appropriate people to receive the death benefits, they could be paid as a lump sum, an annuity or as a nominee flexi-access drawdown.

•

If we thought there was someone more appropriate to receive the pension benefits, we could only pay them as a lump sum death benefit.

Annuity

KEY Scheme Administrator Laura Billy Toby Danielle A LS FAD A LS FAD LS Stan Annuity

KEY

LS

KEY

A LS FAD

Scenario 4 – Death occurs whilst nominee flexi-access is being paid.

•

Both Billy and Danielle are receiving an income from a flexi-access drawdown from their late father and decide to nominate each of their respective children Laura and Toby. In the event of Billy or Danielle’s death Laura and Toby will receive successor pension benefits.

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When Billy dies, Laura can receive her pension benefits as a lump sum death benefit, a successor drawdown or she can purchase an annuity. And although Danielle is still alive, this cannot affect how Laura will receive her pension benefits.

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If Billy had another dependant, Stan who was not previously nominated, we couldn’t pay Stan any pension benefits as Laura is still alive, but we could pay him a lump sum payment.

Annuity

KEY Scheme Administrator Laura Billy Toby Danielle A LS FAD A LS FAD LS Stan Annuity

KEY

LS

KEY

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LIFETIME ALLOWANCE

If any lump sum death benefits are paid out which exceed the level of Lifetime Allowance at that time, they’ll be subject to a tax charge.

Different lifetime allowances can apply, depending on whether or not one of the various protections are in force. These include:

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the standard lifetime allowance (SLA) which is £1.25m for tax year 2015/16 or

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the personal lifetime allowance (PLA) if primary protection (PP) has been chosen, or

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the ‘benefits value’ (e.g. fund value) if enhanced protection (EP) has been chosen, or

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the Fixed Protection 2012 limit which is £1.8m, or

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the Fixed Protection 2014 limit which is £1.5m, or

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the Individual Protection 2014 limit which is the value of the planholder’s total pension savings on 5 April 2014 (capped at £1.5m).

If an additional tax charge needs to be paid, 55% will be paid on the amount that exceeds the relevant allowance when the benefits are take as a lump sum. This will be paid to whoever is receiving the lump sum payment.

Any fund in excess of the relevant lifetime allowance can be used to provide an annuity or drawdown, in which case a 25% tax charge is payable.

For more information on the lifetime allowance see

www.gov.uk/tax-on-your-private-pension/lifetime-allowance.

INHERITANCE TAX

Unless death benefits are paid to the deceased member’s estate there is not normally any liability to inheritance tax.

SPOUSAL BY-PASS

The most commonly selected death benefit option is a lump sum. Whilst this has the obvious advantage of making the funds immediately available for use, these funds will become part of the recipient’s estate in the event of their subsequent death.

It is common for the recipient in these circumstances to be the deceased’s spouse, and as a result the fund may become liable for inheritance tax on their death.

This situation can be avoided if the fund is passed directly to the next generation using the discretionary disposal available to the original planholder, however this can lead to financial difficulties if the spouse has limited assets in his/her own right.

Spousal By-Pass

1st Death

2nd Death

Loan

Loan repaid from estate

Pension fund Trust Spouse Estate Lump sum to beneficiaries

The solution is to set up and nominate a trust to receive the benefits on first death, with the spouse and any children as beneficiaries. The trustees may then make a loan to the spouse as a potential beneficiary to cover any short-term needs. When the spouse subsequently dies the trust may be wound up and the assets distributed to the remaining beneficiaries. These assets include the value of the loan which will be repaid from the deceased spouse’s estate. As a result the pension fund has not only been kept out of the spouse’s estate, but the remaining estate has been further reduced by the value of the loan, resulting in an even lower liability for inheritance tax.

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.

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65SA21/9 August 2015

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The Royal London Mutual Insurance Society Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The firm is on the Financial Services Register, registration number 117672. It provides life assurance and pensions. Registered in England and Wales number 99064. Registered office: 55 Gracechurch Street, London, EC3V 0RL. Royal London Marketing Limited is authorised and regulated by the Financial Conduct Authority and introduces Royal London’s customers to other insurance companies. The firm is on the Financial Services Register, registration number

302391. Registered in England and Wales number 4414137. Registered office: 55 Gracechurch Street, London, EC3V 0RL. Royal London Corporate Pension Services Limited is authorised and regulated by the Financial Conduct Authority and provides pension services. The firm is on the Financial Services Register,