Most of us spend our working lives building up our pension pots to utilise when we retire, but what happens to your pensions when you die?
The answer to this question will depend on the type of pension pot you have. There are different schemes and arrangements that can determine if and how your beneficiaries receive your pension funds after you die, if that is what you wish.
There are also certain tax implications for beneficiaries receiving pensions after you die, which again depends not only on the type of pension you have but also, under current legislation, the age you are when you pass away.
This article will detail the current rules and tax regulations that apply to your pensions after death and the proposed legislation.Â
Private pension after death
There are two common types of private pension which behave differently if you die before you start drawing down payments from them.
Defined benefit pensions are based on your salary and the length of time you were employed and a member of your employer’s pension scheme. They will usually pay a pension to your spouse or a dependant partner and sometimes to your children (until they reach 18 years or 23 years if in full time education).
A defined contribution pension is an investment pot to which you and potentially your employer will have contributed  over the years. At retirement, there are various ways you can draw income and this will vary from scheme to scheme. Similarly, there are various ways your beneficiaries could inherit this pension and again, not all schemes will offer all of these options and your beneficiaries could be limited to a lump sum. All options, however, are free of inheritance tax as pensions are outside of your estate.
Drawdowns and dependants
If you are in a flexible drawdown pension when you die, your beneficiaries will typically have full choice on how they receive the funds, provided they are mentioned on your expression of wishes. Dependants can choose to retain the drawdown structure and receive income from it or further cascade the pension down generations without inheritance tax consequences.
At time of writing, current legislation states that if you pass away under the age of 75, your flexi-access pension benefits can be drawn by your beneficiaries free of income tax. However, legislative changes may be coming regarding the age 75 rule.
| Death before age 75 | Death after age 75 |
| A tax-free lump sum, or | A taxable lump sum – taxed at their marginal rate of tax. |
| A tax-free income. Income will remain tax free if funds are put into a drawdown or a lifetime annuity and actioned within two-years of notifying the plan administrator of death. | A taxable income – taxed at their marginal rate, again from a beneficiary’s drawdown or annuity. |
To receive a lump sum tax free, it must be paid within two years of notifying the plan administrator.Income tax will be applied if not.Â
What happens to your annuity when you die?
The answer to this question will depend on whether your annuity was a single or joint-life arrangement.
If you had a single arrangement in place then unfortunately payments will stop when you die (or after a guaranteed period you agreed at the outset). If you had a joint-life or guaranteed term annuity, your beneficiary will continue to receive some or all of the money you were receiving from the annuity, depending on what was agreed.
Make sure your beneficiaries know if any protection value is added to your annuity, as a lump sum could be payable upon your death.
| Â | Death before age 75 | Death after age 75 |
| Joint Life | Ongoing annuity payments tax free. | Ongoing annuity payments taxed at their marginal rate. |
| Guaranteed Life | Remaining annuity payments tax free. | Remaining annuity payments taxed at their marginal rate. |
Â
Potential changes in legislation – death before age 75
In tandem with the changes to lifetime allowance legislation, the government has put forward draft legislation for 2024/25 that income drawn from a beneficiary drawdown pension or annuity will be taxable at their marginal income rate, no matter what age the deceased passed away. This effectively removes the age 75 rule differential for drawdown pensions that is currently in place.
However, this legislation is just in draft and appears to benefit those that inherit from pensions as a lump sum rather than as a pension or annuity. This represents a significant change and has faced some criticism. Ongoing advice will help to navigate these changes if and when they come to fruition.
How we can help with passing on your pension
It may be daunting to think about what happens to your finances after you pass away, but it is so important to ensure you have the right plans in place in order for your beneficiaries to receive what you intended. Even with the proposed changes in legislation, pensions remain one of the most tax efficient ways to pass on wealth and it is important that your potential beneficiaries are nominated appropriately.
Speaking to a financial planner can provide you and your family with the guidance needed to understand the processes and tax implications that sit behind passing on your pension, so when the time comes it is one less thing to cause any confusion and stress.
If you would like to get in touch to discuss your pension and succession plans, please do reach out to our team.
Important Note
The information contained within this document is subject to the UK regulatory regime and is therefore primarily targeted at consumers based in the UK.
This article is distributed for educational purposes only and should not be considered financial advice.
If you are unsure about the suitability or otherwise of any product or service, we recommend that you seek professional advice.
The opinions stated in this document are those of the author and do not necessarily represent the view of Progeny and should not be relied upon to make a financial decision.
Information contained herein has been obtained from sources believed to be reliable but is not guaranteed.
If you are unsure about the suitability or otherwise of any product or service, we recommend that you seek professional advice.
Tax treatment depends upon individual circumstances and is based on current UK tax legislation, that is subject to change at any time.
The Financial Conduct Authority does not regulate will writing and some forms of estate planning.
Past performance is no guarantee of future performance.
The value of an investment and the income from it can fall as well as rise and investors may get back less than they invested. Your capital is therefore always at risk. It should be noted that stock market investing is intended for the longer term.
