Forgotten Reform Is A Major Estate Planning Tool

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While tax free lump sums have stolen most of the headlines for the new pension reforms, an almost ignored part of the rules provides a powerful tool for estate planning.

The first step is deciding what you are going to do with your pension – is the money there to give you an income in retirement or if you don’t need the money, are you going to pass the money on to family and loved ones when you die?

This is the important question, write Ian Dyall, head of estate planning and Andy James, head of retirement planning at financial firm Towry.

The response all comes down to the tax treatment of the pension.

If you have other assets to provide an income, leaving the fund intact is probably better than drawing down cash because the tax treatment is more benign.

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What the rules say

The new rules cater for estate planning with a pension fund.

This is what they say:

  • If you die before the age of 75, your family and loved ones can inherit your pension tax-free
  • If you die after your 75th birthday, the pension is taxed at the marginal rate of income tax of the beneficiaries if an income has been taken from the pension
  • Until 2016-2017, if a lump sum is taken, the beneficiaries pay income tax at 45%, but after April 5, 2016, they pay at their marginal rate
  • An inherited pension can be –passed on when the original beneficiary dies

The pair considers the best way to work out how much cash anyone needs for their retirement is to run a cash flow analysis.

Cash flow analysis

This is a detailed working of income and expenditure forecast over a fixed period.

The analysis also includes all assets and looks at how best they can be used in retirement.

For instance, buy to let investors with income generating property may not need to touch their pensions or could pay less tax than drawing a lump sum by selling their investments.

“If the cash flow analysis shows you have enough income and that you will have some assets left over, then you have a starting place for estate planning and what to do with your pension,” said Dyall and James.

“Everyone is different and has their own demands and comfort limits, so running the numbers is a great idea for everyone.”

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