Current pension rules for dependant children contain an anomaly that can cause huge tax liabilities in some circumstances, AJ Bell said, while HM Revenue and Customs confirmed to FTAdviser they are aware of this issue.
AJ Bell called on the government to amend rules for dependants’ pensions warning after finding these schemes are excluded from new death benefit rules for defined contribution arrangements.
A dependant’s pension for a child usually has to stop when they reach age 23 and cease to qualify as a dependant.
If the beneficiary was 24 on receipt they could receive the pension as a nominee instead of as a dependant, with no restriction in the period over which they could receive the pension.
While in many cases the new death benefit rules mean that payments to the child are tax-free, where the deceased was over 75, death benefits paid as a dependant’s pension are subject to income tax.
Where the dependant’s pension is being paid to an adult, there is no limit to the time in which they must take benefits, but if paid to a child, the pension must all be taken by age 23 when dependency is deemed to cease.
This can force those in their early 20s to withdraw significant amounts out of the pension, all subject to income tax, before their eligibility ceases, according to AJ Bell technical resources consultant Charlene Edwards.
A spokesman for HMRC said that they are aware of an issue where certain pensions are paid to dependants that are under 23.
“HM Treasury and HMRC keep all tax policy under review.”
Ms Edwards said: “The new death benefit rules for defined contribution arrangements have provided wider planning opportunities for advisers and savers to draw income as and when they require it.
“Dependants’ pensions for children are far from a new concept, but they seem to be excluded from this new flexibility. The rules for all beneficiaries could easily be aligned so that when they reach age 23, a dependant child could also make use of them.”
She questioned whether the fact the dependant’s pension has to stop at 23 - whereas a nominee’s pension for a 24 year old is not restricted - is an unintended consequence of rushed legislation, or will remain as a penalty on young people who must withdraw funds in such a potentially short timeframe?
“We would ask the government to remove this anomaly in the rules as soon as possible so that on attaining age 23, dependant children can choose to leave the funds in a tax-advantaged wrapper until the point they actually need to access them.”