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What happens to your pension fund when you die?

September 2009

The quick, or perhaps not so quick answer to this question can be found in the small print of your pension fund rules and regulations. The tax position and the practical answers tend to fall into the following broad headings.

Up to age 75 you will have a degree of flexibility in the way in which you choose to take benefits from your fund. After age 75 you will be required to crystallise your fund - draw an income from your fund or buy an annuity. Interestingly after age 75 you also lose the right to take a tax free lump sum.

Usually you can crystallise your pension fund from age 50 (until 5 April 2010), 55 after 5 April 2010. Once you have crystallised your fund, then in the event of your death before age 75 your dependents have two choices:

  • your spouse, civil partner or other dependants can use your fund to provide a pension. Any pension received would be taxed as earned income in the usual way, or
  • your beneficiaries could elect to take the entire fund less a tax charge of 35%. (If you die before you have crystallised your fund, there would be no tax charge.)

Once you have taken an annuity (i.e. you have purchased the right to a guaranteed income for the rest of your life) when you do die the right to the income ceases unless:

  • the annuity provides for a guaranteed minimum period of payment and part of that minimum period is unexpired, or
  • the annuity provides for a spouse or civil partner's pension.

In all cases once an annuity is purchased the right to recover any of the pension fund surrendered is lost.

After age 75 the situation is a little more complex!

If an annuity is purchased the above comments still apply. However it is possible to take an alternatively secured pension, an ASP, This provides for an income, a pension, but does not require you to part company with your pension fund. If you die whilst taking an ASP the following choices apply:

  • the fund may be used to provide a pension for a spouse, civil partner or other dependent, subject to tax.
  • on the subsequent death of the spouse, civil partner or other dependent the fund can be passed to a charity with no tax charge.
  • if the fund is not passed to a charity it is subject to inheritance tax (at 40%). The residual 60% then remains unallocated. The legislation is unclear on how the unallocated fund can be used or indeed how long it remains unallocated. However if the pension scheme rules allow, it may be possible to add additional members and benefit them accordingly.

So the answer to the question, what happens to your pension fund when you die, is complicated. If you need clarification regarding your own scheme have a word with an Independent Financial Advisor, who we can recommend. If you need advice on the tax consequences we would be happy to take a look for you.

Hilton Sharp & Clarke