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Where is your pension going after you die?
Dying before you retire is unfortunate but there is a way to control the money you saved from beyond the grave and help your dependants.
by Michelle McGagh on Dec 21, 2012 at 09:00
If you are unlucky enough to die before taking your pension, you can still have some say in where your hard-earned cash can go by putting your pension death benefits into trust.
When you take out a pension you usually have to nominate a beneficiary of your death benefit, meaning if you die before retiring your pension savings are passed on to the person you have selected.
The money that is passed on usually consists of the return of the pension fund plus any life insurance tied to the pension. It is paid out tax free to whoever you want, typically a spouse or partner, or children, so long as the money paid out does not exceed the lifetime pension allowance, currently £1.5 million. If it does exceed this limit the excess money will be taxed at 55%.
Death benefits from personal pensions, stakeholder pensions and other 'defined contribution' (DC) schemes (so called because the amount you pay into the scheme is defined, rather than the pension you receive from defined benefit schemes) are normally paid as a lump sum, according to Andy Zanelli, head of retirement planning at AXA Wealth. By contrast defined benefit (DB) schemes usually pay out an income to the beneficiary, he says.
Most people are members of DC schemes which means any death benefits would be paid out as a lump sum. Zanelli believes that it is a bad idea to pay any grieving family member a lump sum of money when they are in an emotionally fragile state.
Instead he recommends writing your pension death benefits into trust and requesting that the benefit be paid out as an income in the event of your death.
‘If you want someone to continue their lifestyle but don’t want them to have a lump sum of cash you can say you want the money paid out as an income rather than a lump sum,’ said Zanelli.
‘Having it paid as income through a trust gives people breathing space and it keeps the money safe while the person passes through a traumatic phase of their life. For a lot of people the pension is their first or second largest assets, and you want to keep it safe. ‘
Zanelli said that giving someone a large sum of cash when they are going through a bereavement could attract unsavoury characters wanting to part a grieving partner from their new-found wealth. From a tax planning point of view, Zanelli also said it may not be appropriate to place a lump sum on to an estate as it may affect inheritance tax planning, whereas money ring-fenced in a trust falls outside of inheritance tax.
What does it cost?
If you want to transfer death benefits into trust most pension providers will do this for free, said Zanelli.
He said that when it comes to controlling the death benefits most people ‘do nothing’ and some sign an ‘expression of will’.
‘Most people do nothing [about the death benefits] or they sign an expression of will which is a letter to the trustees of your pension saying I want my money to go to ‘X’,’ he said.
‘This letter isn’t binding though so the trustees can choose to ignore it. It depends on how the trustees view their duties as to whether they take notice of an expression of will. If you set up an appropriate trust then [your wishes] will be binding.’
Once a trust of expression of will have been set up, Zanelli said it must be regularly reviewed.
‘A lot of people do not review their expression of will and who the death benefits are going to be paid to. They may have been married and then divorced but their ex is still the beneficiary,’ he said.
Changing the beneficiaries is one of the perks of writing your death benefits into trust.
‘If you decide you don’t like your daughter’s husband then you can change the beneficiaries of the trust. This is as common as you like and one of the main reasons for setting up a trust – so you can decide who gets your money,’ said Zanelli.
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