The topic I have discussed most over the last 12 months is pension death benefits and the one
thing I am asked time and again is whether we should now revoke the discretionary trust nomination in favour of named persons. My answer? I do not know: it is a very personal decision and tends to come down to tax versus control.
It is now possible to nominate anyone to receive ongoing flexi-access drawdown after your death. This is a big step forward in a changing world, where previously it was only those financially dependent on the deceased member that could continue to receive income in any form from the scheme.
Other potential beneficiaries were limited to the payment of a lump sum. There was also the restriction that, on second death, the funds needed to be paid out as a lump sum. This was, again, a daft rule that has little place in today’s society.
It is now possible to pass funds down the generations, missing out those that do not need the money. But with increased options comes complications. Once passed on, there is no reference back to the original member: it is the person currently holding the pension pot that decides who it will be left to should there be any residual fund available after their death. That person also has the option to strip out the fund at any point if they so wish.
The taxation changes are positive. There is now no reference to crystallised or uncrystallised funds on death, so the decision by individuals to defer taking benefits to protect their fund
from tax charges on their death is a thing of the past.
This gives greater freedom for people to access their funds in a way and at a time that suits them. It also helps them avoid both a tax hit during their lifetime when they need to access funds and potentially on death if death occurs before their 75th birthday and the benefits are designated within two years. If death occurs post-75, the fund is taxed at the beneficiaries’ marginal rate (45 per cent if paid to a non-individual).
The flip side to all these changes to death benefits has been the possible loss of control mentioned above. Previously, it was very common to leave benefits to a trust so a lump sum was not paid out directly into the estate of a spouse.
It had generally been possible to leave an income to the spouse but this depended on the scheme. On the death of the spouse, a lump sum would have been paid out if they were still in drawdown or, if the income had been secured by way of an annuity, there would be nothing.
As this is no longer a problem, on second death it can still remain in the tax-privileged environment of a pension. There has been a lot of discussion about whether a trust is still the most appropriate option.
There is no right or wrong answer: it tends to come down to tax or control. In many cases, the implications become greater at age 75 when a flat rate of 45 per cent is applicable on the lump sum into a trust, whereas marginal rate tax is paid if a lump sum or income is paid directly to an individual.
One thing to be very careful of is whether or not the pension contract actually allows the benefits on death to be paid in the format selected by the client. As opposed to retirement options, where it is possible to transfer at retirement to access the required benefits, it is not so flexible on death.
The scheme holding the assets at death will need to implement the death benefit, so if flexi access drawdown is not available during the client’s lifetime, it is unlikely to be available on their death for their beneficiaries.
This may mean a transfer sooner rather than later should be considered as waiting for the scheme to bring in the new options could just be too late for some. It should be said if the scheme allows beneficiaries drawdown, then it will be possible to transfer once it is in place to bring pension pots together.
It will always need to be ringfenced but it may be possible to have the funds managed as a whole should the beneficiary wish to do that.
There is no definitive answer when looking at death benefits but it is clear to me there are a number of opportunities to talk to clients about. On the death of the member the beneficiary will also need advice, so getting them involved in the discussions now will possibly mean new clients.
It may also bring some reassurance to the member that the beneficiary will be guided through the process and lead them to do the right thing after their death.
Claire Trott is head of pensions technical at Talbot and Muir