Beneficiary flexi-access drawdown (BFAD) conundrum

I don’t think that many will disagree that the 2015 “pension freedom” changes radically altered the landscape for defined contribution pension arrangements.

At the time, the ability to access money purchase funds without limits on income (i.e. maximum GAD rates), gave rise to speculation that pension funds would be cashed in at the earliest opportunity and taken straight to the nearest Lamborghini dealership. However, for financial advisers, it was the changes to the death benefit tax rules applying to money purchase arrangements that were amongst the most significant. In addition to retirement planning, the ability to cascade pension wealth in a tax-efficient manner meant these arrangements also became a key consideration for succession planning. As such, many arrangements will have seen a reduction in benefits withdrawn after minimum pension age – rather than the widely predicted increase.

Fundamental to the new tax rules for death benefits was the introduction of beneficiary flexi-access drawdown (BFAD). This has given individuals the ability to pass on pension benefits in a manner where beneficiaries have immediate access to pension funds after death but the funds still retain some of the main advantages of being within a pension arrangement (such as tax-free growth and favourable IHT treatment). Receiving benefits as BFAD can also reduce or even remove tax liability on death and allows the beneficiaries to control the amount of any income tax due, where the member dies over the age of 75.

The rules for who can receive pension funds as a BFAD arrangement are, however, quite complex. While any pension scheme can pay benefits to potential beneficiaries as a lump sum, it doesn’t necessarily follow that those beneficiaries will have the option to receive pension death benefits as a BFAD arrangement.

The first and more simple consideration is whether the member’s pension arrangement actually offers the ability for beneficiaries to receive benefits as BFAD. Legislation for offering BFAD is “permissive” rather than “prescriptive” – meaning there’s no compulsion for pension providers to offer this option.

Even where a pension arrangement, such as the Fidelity Pension, offers beneficiary drawdown as an option on death, the provider can only offer that option to the receiving beneficiary if they are deemed a “dependant”, “nominee” or “successor”:
 

1. In broad terms, a dependant includes the spouse or civil partner on the date the pension member died, any children under 23, children aged 23 or over who were dependant as a result of a physical or mental impairment, or anyone deemed by the pension scheme administrator to be financially dependant on the member. Full details of the definition of a dependant can be found at PTM071200.
2. If the beneficiary is not a dependant, then they could still receive benefits through a BFAD arrangement if they are a nominee of the member (PTM071300). A nominee is an individual named by the pension member who is not a dependant. The scheme administrator can also name a nominee, although they are only permitted to do so where there is no surviving dependant or no other individual or charity has been nominated by the member. Therefore, in reality, it’s highly unlikely that the scheme administrator will be able to name any nominees, especially where an expression of wish form has been completed by the member.
3. Successors (PTM071300) are individuals nominated by dependants or nominees to receive death benefits in the event of their death. If successors receive benefits as BFAD, then they can also nominate their own successors and so on.

Prior to the introduction of the new death benefit tax rules in April 2015, expression of wish documentation (EoW) fulfilled a single purpose. This was to give the pension scheme administrators, when exercising their discretion, an indication of how the pension member would like the benefits distributed.

Even following the changes, the most important information on EoW documentation remains the indication of how the member would like the benefits distributed in the event of their death. However, as a result of the greater flexibility in the tax rules, the beneficiary(ies) named by the member are often different to who they may have been before the changes.

Additionally, the option to “nominate” non-dependants so that benefits can be paid as BFAD has meant that advisers and their clients will consider what should happen if benefits for any reason are not paid to the named beneficiary. An example may be where the member wishes for their spouse to receive all the benefits but also has adult children. In the event that the spouse cannot receive the benefits (for example, if they died simultaneously), the member would like to ensure that BFAD is an option for the children.

At Fidelity, we have designed our EoW form so that it is split into two sections:

1. The first section “Beneficiaries” is for the member to name individual(s) who they would like to receive benefits and what percentage they would like to receive. Any individual named in this section would qualify for BFAD.
2. The second “Nominee” section is for the member to name/nominate any other individuals. So, in the event that benefits are paid to these individuals, rather than being paid to the main beneficiary, they would also qualify for BFAD.

It is not unusual for a pension member’s wishes and needs to change frequently during their working life and into retirement. For instance, if the member concludes they would like their pension benefits directed to their children rather than their spouse as part of their succession planning, it is important that the EoW is updated to reflect this. Therefore, more than ever, the importance of regularly reviewing and updating expression of wish forms cannot be overstated.

Please note that the nomination process and Expression of Wish form detailed above is now also available online with our new straight through journey.