Tax-efficient inheritance through pension funds

With UK interest rates at historically low levels, many business owners who have drawn benefits from their pension arrangements in recent times have opted for what is known as Flexi Access Drawdown (FAD) as opposed to choosing a Fixed Lifetime Annuity.

By David Heaton, chartered financial planner, Chancellor Financial Management

Whilst FAD should not be undertaken lightly, due to factors such as the ongoing costs and the investment risks, often the tax efficiency of the pension fund in the event of their death is a major factor in someone choosing this route.

The so-called “Pension Freedoms” introduced to the legislation with effect from 2015 further increased the attraction of Flexi Access Drawdown.

For example, where a pension scheme member is aged below 75 at the date of death their beneficiaries (who no longer need to be a family member or a financial dependent) should be tax-free whether it is drawn as a lump sum or as an income.

If someone dies after age 75 the beneficiaries will pay tax on whatever they receive at their highest marginal rate, currently a maximum of 45%. Furthermore, under current legislation any pension death benefits will generally not be liable to Inheritance Tax which in some cases can substantially increase the amount that can be passed on tax-free in the event of death.

These days, pension funds can be an effective and efficient way of passing money down the generations. As everybody’s circumstances are different, it is important to take regulated financial advice before taking any action to withdraw benefits from a pension scheme as there are pitfalls which can catch the unwary.