Inheritance Tax Trap For Unwary Pension Savers

Scrapping the 55% tax charge on leaving unspent pension funds to family and loved ones has been welcomed by many retirement savers – but they still need to watch out for a tax trap.

Chancellor George Osborne has axed the 55% penalty for retirement savers over 75 years old who have not drawn all their pension funds before dying.

The aim is to let them pass on the lifetime savings without incurring huge tax bills.

The new rules let a pension pot pass tax free for savers aged below 75, and will be liable for income tax if the saver is aged over 75.

However, the new rules may have done away with the headline tax charge that worries so many retirement savers, but has still left another tax trap for the unwary.

Tax experts are warning that simply forgetting to sign a pension document could still cost beneficiaries a fortune in tax.

Tax bill

Although dealing with pensions is a lot easier from April 15, 2015, the fund will still be subject to inheritance tax if the retirement saver has not nominated a beneficiary to their pension provider.

Inheritance tax is paid at 40% on the value of an estate above £325,000.

It’s easy to see that a sizeable pension pot plus the average value of a home of around £275,000 could easily push the value of an estate over that limit and still leave a tax bill due to HM Revenue & Customs (HMRC).

Avoiding the inheritance tax bill is quite simple; the retirement saver just has to nominate a specific person or persons to inherit the pension fund rather than allowing the money to pass into the general estate.

To do this, most pension providers have a template form already worded correctly that only needs completing with the right names, signing and dating.

What to do

Even if you have just started saving in a pension, it’s wise to do this as soon as possible rather than overlooking the point and letting your family find out many years later that they are facing a large tax bill.

Danny Cox, head of financial planning at pension provider Hargreaves Lansdown said: “Always fill in the nomination form when taking out your pension. If you don’t, the money may not go to the people who you want to have it and really need it – and the estate will pay inheritance tax as well.”

Always review the nomination with your will as lifetime events can change circumstances – for example your nominated person may have dies or you may have separated or divorced.

The instructions also need to be clear. If you have friends or relatives with the same name make sure you identify the right one by relationship, date of birth or address, for example.

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