27th September 2018

In a recent retirement planning meeting we came to discuss how pensions valued over the lifetime allowance are charged, particularly where there are multiple beneficiaries and/ or a mixture of payment types being taken.

Anyone receiving a death benefit from a pension plan (a beneficiary) will have some tax to pay if the total benefits are over the available Lifetime Allowance (LTA).

The Lifetime Allowance is the total amount you can take from all your pension plans without facing a tax charge. The standard lifetime allowance is currently £1,030,000, but some people may have a higher allowance, known as LTA protection.

Any amounts over the allowance will be subject to an excess tax charge. To help understand the impact of this tax, its best if we use an example scenario.

An individual has uncrystallised pension funds valued at £1.25m with no LTA protection – what would the lifetime allowance excess tax charge be if they die before age 75?

When an individual dies before age 75 with uncrystallised pension funds the full amount will be tested against the deceased’s LTA. Using the value above this would give an excess of £1,250,000 – £1,030,000 = £220,000.

Taxation of the excess then depends on how the beneficiaries choose to receive payments. Any excess benefits received as dependant /nominee drawdown will be taxed at 25% and any received as a lump sum will be taxed at 55%.

Taking an example where the £1.25m was split equally between four different beneficiaries who decide to have benefits paid to them as follows:

Beneficiary A – £312,500 lump sum

Beneficiary B – £312,500 drawdown

Beneficiary C – £156,250 lump sum and £156,250 drawdown

Beneficiary D – £78,125 lump sum and £234,375 drawdown

Guidance from HMRC states that the benefit crystallisation events (BCEs) are all treated as having occurred simultaneously to ensure any excess charge is applied fairly across all beneficiaries, so the excess tax charge would be allocated as follows:

Beneficiary A – liable for 25% of £220,000 taxed at 55% = £30,250

Beneficiary B – liable for 25% of £220,000 taxed at 25% = £13,750

Beneficiary C – liable for 25% of £220,000 half of which is taxed at 55% and half taxed at 25% = £22,000

Beneficiary D – liable for 25% of £220,000, one quarter of which is taxed at 55% and three quarters taxed at 25% = £17,875

The planning around LTA excesses can be a complex matter as it relies on a multitude of assumptions and, if the pot is to be passed on, knowing the tax rate of any beneficiaries is important.

It’s the deceased’s personal representatives who are responsible for carrying out the lifetime allowance test, not the scheme administrator. If a lifetime allowance charge is due, the recipient of benefits is liable to pay it.

If you are concerned about the impact exceeding the lifetime allowance could have on your family in the event of your death please get in touch and we will be happy to assist.

Barra Gorman

Chartered Financial Planner