It has been over four years since the Budget announcing pension freedoms. Legislation effective from 6 April 2015 resulted in a significant change in the options for taking money from pensions and the definitions surrounding death benefits, and how they are taxed. Lots has happened in that time, but are pensions really being cascaded through the generations?
What are the main issues in terms of death benefits? In this article I briefly consider the main issues experts are asked to deal with and some areas that cause advisers concern.
What did the changes mean?
The death benefit changes only impact defined contribution (DC) schemes. Legislatively, the death benefits which can now be offered are: cash lump sums, dependants’/ nominees’/successors’ annuity and dependants’/ nominees’/successors’ drawdown. It is possible to have a mixture of death benefits and for the death benefits to be provided to more than one beneficiary.
The main change was in the new terms, nominees and successors, meaning that crystallised or uncrystallised money can be passed to anyone. When the original member dies, if a beneficiary is a dependant then they can have a dependant’s annuity or drawdown. If they were not a dependant then they are a nominee. A nominee is either someone nominated by the member or, if there are no dependants or nobody nominated by the member, the scheme administrator can choose the nominee.
If the pension fund moved into dependants’ or nominees’ drawdown on that beneficiary’s death, it can be passed onto the beneficiaries – or beneficiary – who can choose a lump sum, successor’s annuity or successor’s drawdown. Only if the money always remains in drawdown can it be passed through the generations.
Scheme rules rule
One of the main issues with death benefits is that often clients believe that their pension funds will be able to cascade through the generations. However, even if they are in a DC scheme, this is not always the case. Although the legislation allows it, this does not mean that schemes have to allow it. It is common for occupational DC schemes to have death benefits which offer a lump sum to anyone but only offer a dependants’ annuity. In addition, some older schemes will not offer drawdown.
Pension death benefits must be settled using the options available within the scheme at the member’s date of death. If that scheme will not offer beneficiary drawdown then it is not possible to have it. It is too late to transfer a death benefit once your client has died so knowledge is key.
It is essential that clients are aware of how the law works. If a member has a separated spouse and two adult children but dies without an expression of wishes, then the provider will be restricted as to how benefits can be offered. Evidence could be received that they would not want the separated spouse to receive any benefit but would instead want their children to benefit. However, as the separated spouse is technically a dependant and the children are not, the children can only receive a lump sum which may not be the most tax-efficient option. Make sure that clients understand that any non-dependants should be named on the expression of wish form.