Death benefits

• An uncrystallised funds lump sum death benefit can be paid from funds from which the member has not yet taken benefits.
• A flexi-access drawdown fund lump sum death benefit may be paid on the death of a member, dependant, nominee or successor while in flexi-access drawdown. Drawdown may be paid wholly or partly as a short-term annuity.
• A drawdown pension fund lump sum death benefit may be paid on the death of a member or dependant while in capped drawdown.
• An annuity protection lump sum death benefit may be available when an annuity is being paid. The maximum amount is the purchase price of the annuity, minus the total of annuity payments made to the member.

Please download our money purchase scheme guide for more death benefit types and for further information which can be found at the bottom of this page.

• A beneficiary’s flexi-access drawdown may be set up for a dependant, nominee or successor.
• A beneficiary’s annuity (or scheme pension paid in the form of an annuity), may be payable on the death of a member. This can be an annuity bought alongside the members’ annuity and payable on their death or an annuity bought with the remaining uncrystallised or drawdown funds.
• Instalments of an annuity may continue until the end of a guaranteed period selected when the annuity was bought. There is no maximum length of a guaranteed period.

• A defined benefits lump sum death benefit is typically (but not necessarily) a multiple of salary for those in employment. Member contributions may also be returned on death.
• A pension protection lump sum death benefit may be available when a scheme pension is being paid
• A trivial commutation lump sum death benefit may be paid when the value of a dependants’ pension or remaining guaranteed instalments of the pension is  £30,000 or less.

• Dependants’ scheme pensions can be paid on the death of a scheme member before or after retirement. Depending on scheme rules they can be deferred for a period, payable for a limited time, reduce in payment or be paid less frequently than annually. However, upon the dependants’ death they cannot have a guaranteed period, pension protection, be accompanied by a pension commencement lump sum or have a further pension payable.

Hi there, I’m Neil Dickey. Welcome to this FundsNetwork pension technical video on a death benefits overview.

In this video we take a look at pension death benefits as a result of the changes coming in from the pension freedoms introduced in April 2015.

One of the key aspects of the changes is that they standardised the death benefit treatment for the different defined contribution scheme retirement options. With regards to defined benefit scheme death benefits on the other hand, these largely remain unchanged.

From 6 April 2015 when the death benefits of a member of a defined contribution scheme who does not have a scheme pension are paid out, then the continuing pension whether it is in the form of an annuity or income taken via flexi-access drawdown can now be paid to any beneficiary known as the nominee, as nominated by the member.

Also the nominee or nominees can in turn nominate a successor to receive a pension in the event of their death, who can in turn nominate a successor when they die.

A scheme administrator can nominate an individual to receive a beneficiary’s pension if there are no surviving dependents of the member and the member has not nominated a charity.

A related important point is that defined benefit schemes can only pay dependent’s pensions and not nominee or successor’s pensions and that these must be paid in the form of scheme pensions.

The table we are about to see compares the position before and after the 6 April 2015.

If we take a look first of all at the position with regards to lump sums before 6 April 2015 we see that they were paid out tax-free. We also see that there could have been a potential 55% tax charge if the member died in drawdown and the lump sum option was available to any beneficiary.

Post-5 April 2015 the position changes: lump sums are now tax-free in all circumstances and the lump sum is available to any beneficiary.

When we take a look at the income position pre-6 April 2015, then what you see is that it’s taxed as income at the beneficiary’s marginal rate and that the income option is available only to dependents.

Comparing that with the post-5 April 2015 rules and what we see is that the beneficiary can now take a continuing income via an annuity or flexi-access drawdown and it’s tax-free.

The scheme pension however, is still taxed as a dependent’s pension under PAYE.

The dependent, the nominee or the successor can take an income via an annuity or via flexi-access drawdown but scheme pensions are still only available to dependents.

As you can see on death before age 75 death benefits with the exception of a continuing scheme pension are tax-free, however the payment of a relevant lump sum death benefit or the payment of unused uncrystallised funds designated with for drawdown or to purchase a lifetime annuity following the member’s death are benefit crystallisation events and as such trigger a lifetime allowance test, which potentially could give rise to a lifetime allowance charge if the lifetime allowance is exceeded.

There is generally no other tax charge unless the payment forms part of the member’s estate. Provided the lump sum death benefits are payable under trust as is usually the case or at the discretion of the scheme administrator this would not normally be the case and so would be free of IHT.

On death from age 75 onwards there are with one possible exception no benefit crystallisation events and therefore no lifetime allowance charge. There will also be no test against the lifetime allowance where the death benefits are paid outside of the two-year window.

What two-year window?

Well death benefits payable before age 75, only remain tax-free if they’re paid out within a two-year window following the member’s death. This is either two years from when the scheme administrator found out about the member’s death or two years from when it would have been reasonable for him or her to have found out about the member’s death, whichever is earlier.

Any death benefit not paid out within the two-year window would be taxed at the recipient’s marginal rate of income tax, whereas in the first year the pension freedom reforms were implemented, 2015/16, it would have been subject to a 45% tax charge.

Please note that neither capped drawdown or uncrystallised funds pension lump sums, UFPLSs, are available as a death benefit option.

If the member dies in capped drawdown and the beneficiary wishes to continue in drawdown then they would have to do so via a dependent or nominee’s flexi-access drawdown.

Taking a look at death on or after age 75 the position pre-6 April 2015 was that the entire lump sum would be subject to a 55% tax charge, including funds already in drawdown. When we compare that with the position post-5 April 2015, the new rules dictate that in the current tax year the lump sum would be taxed at the recipient’s marginal rate of income tax, whereas in the first year the pension freedom reforms were implemented, 2015/16, it would have been subject to a 45% tax charge.

When we look at a continuing income payable out, on or after age 75 the pre-6 April 2015 rules the income would be taxed as income and the option is only available to dependents.

Once we get to the new rules, post-5 April 2015 then the income will be taxed as the dependent, nominee or successor’s non-savings income under PAYE, if the income is taken via a scheme pension or an annuity or a flexi-access drawdown plan.

It’s fair to say that taken with all the other pension freedom changes that came in from April 2015 that these changes are highly significant making saving within a defined contribution pension wrapper more appealing and creating for the first time an inter-generation pension that allows a wide range of beneficiaries to benefit often tax-efficiently from the remaining fund.

Thank you for watching.