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Impact of pension cash freedoms on bypass trusts

This article is part of
Guide to Bypass Trusts and Pension Freedoms

At the Conservative party conference chancellor George Osborne announced he had abolished the “punitive” 55 per cent tax rate on drawdown pension funds. The new measure will apply to all inherited pensions received from April 2015.

He said: “Children and grandchildren, and others who benefit, will get the same tax treatment on this income as any others, but only when they choose to draw it down.”

Under the proposed new regime, where a lump sum death benefit is paid on or after 6 April 2015 the tax charge will be 45 per cent where the member or beneficiary died aged 75 or more. It is intended this tax will be reduced to the beneficiary’s marginal rate from 2016.

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Where the predecessor of the fund dies aged less than 75-years-old a lump sum death benefit can be paid tax free regardless of whether it is paid from a crystallised or uncrystallised pension fund.

Tracyann Kneen, tax and trusts technical manager at James Hay Partnership, says even subsequent withdrawals from beneficiary nominee or successor’s drawdown pension can be taken tax free where the predecessor of the pension fund dies below age 75.

Such payments will be taxed at the successor’s marginal rate where the predecessor dies over the age of 75.

In other words, Mr Kneen says under the new regime the taxation of the resultant lump sum death benefit or drawdown pension would appear to depend on the age of the last deceased individual holding the pension fund.

In this respect, Ms Kneen says an important development within the Taxation of Pensions Bill is the intention to enable anyone to benefit from a pension fund, rather than the much narrowly defined dependant as under the current regime.

Claire Trott, head of technical support at Talbot & Muir, says some feel that the direct nominations that are now an option for your clients will mean a loss of control of the benefits following the death of the initial beneficiary.

If control over the money after death is an issue, then Ms Trott says there is still scope for a bypass trust to be recommended.

She says: “The new pension death benefit options allow money to be passed down generations free from tax if the member/beneficiary dies before age 75.

“It can either be paid out as a lump sum, which will mean it is part of the estate if not to a trust of remain within the pension scheme and form a beneficiaries flexi-access drawdown, which on death can pass onto a successor and the same options apply.

“However if the member/beneficiary was over 75 at the point of death the lump sum would be taxable, 45 per cent in the tax year 2015 to 2016, which again may make the beneficiaries drawdown more appealing.”