Passing on your pension savings

Gareth Shaw / 26 May 2016

A pension is there to give you a comfortable life when you stop work. But it can also be a tax-efficient way of leaving money to loved ones.



Question

At 65, I have decent savings in a private pension, which I’m not currently accessing as I have enough income from my work pension. Can I pass on my pension savings to my family when I die?

Answer

Despite the constant tinkering with the rules, pensions remain one of the best ways to save for your future. 

You get tax relief from the Government when you contribute to a pension, often your employer makes contributions, and the investments made within your pension can grow free of tax.

The trade-off here is that when you take money out of a pension, withdrawals are liable to income tax (although the first 25% you take is tax-free), and the same could apply to anyone inheriting your pension. 

So, yes, you can pass on a pension to your loved ones, but there are some rules to navigate.

Find out about recent changes to pensions.

Inheritance tax

The first thing to note is that your pension sits outside your estate for the purposes of inheritance tax. So the value of your pensions will not be added in with your home, belongings and other savings when calculating inheritance tax. However, money taken out of a pension, and placed in a bank account or ISA, does form part of your estate.

You’ve built up your private savings in a ‘defined contribution’ pension scheme and the rules differ depending on how old you are when you pass away. 

If you die before the age of 75, your pension can be inherited by your beneficiaries free of tax. They can take the money as a lump sum, or draw it out as they want, and still pay no tax on the withdrawals. 

If you die after 75, your heirs will have tax to pay. This could be 20%, 40% or 45%, depending on their income – it’s based on their tax rate, not yours.

One thing to be aware of is that inheriting a lump sum from a pension could push your heirs into a higher tax bracket. Say your son earns £30,000 a year (so he’s a basic-rate taxpayer), and receives £50,000, he’ll pay 20% tax on the first £13,000 and 40% tax on the remainder if he withdraws it as a lump sum, as it pushes his income into a higher tax bracket. But he could keep his tax bill down by drawing out smaller sums over a several years.

Guide to reducing inheritance tax.

Pensions and inheritance planning

As pensions do not form part of your estate for inheritance-tax purposes, they can be a tax- efficient way to pass on money. 

If your estate exceeds the £325,000 ‘nil-rate band’, your heirs could be liable to 40% tax on anything they inherit above that amount. But with a pension, they could take it in such a way that they’d pay no tax or 20%, depending on their income and when you die.

There are a few things to consider here. You’ve saved into a pension so you can live well in retirement – and though you may not need your private pension now, you may need it later, say to pay for care.

But if you think you can afford to turn your pension into a gift for loved ones, your investment strategy will be key. You could potentially afford to take on more risk, giving you the chance of maximising growth and passing on an even bigger pot.

Managing your investments in retirement, and planning your estate, can be complicated. It is well worth talking to a professional financial planner, who can help you plan your finances to meet both your and your family’s needs. Contact Saga Investment Services to see how we can help you make the most of your money.

For more news and useful information, browse our money articles.

Important information: Capital at risk. This article is not advice. Past performance is not a guide to future performance. Tax rules depend on your circumstances and can change. Please note we do not provide tax advice. If you are unsure whether an investment is suitable, please contact your adviser. Saga Investment Services Limited is an Appointed Representative of Bestinvest (Brokers) Limited, which is authorised and regulated by the Financial Conduct Authority (Reg. No. 2830297). Bestinvest (Brokers) Limited is part of the Tilney Bestinvest Group of Companies, 6 Chesterfield Gardens, Mayfair, London, W1J 5BQ. Saga Investment Services Limited (Reg. No. 09308423) has registered offices at Enbrook Park, Sandgate, Folkestone, Kent CT20 3SE.

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The material is for general information only and does not constitute investment, tax, legal, medical or other form of advice. You should not rely on this information to make (or refrain from making) any decisions. Always obtain independent, professional advice for your own particular situation.