Retirement Savers Exploit Pension IHT Loophole

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Retirement savers who do not need to draw their pension cash can pass the unspent fund on to their families without their estate paying inheritance tax under a little publicised pension freedom rule.

While the spend-your-cash-as-you-wish pension freedom has attracted massive publicity since April 6, the other measure has been largely overlooked, says financial firm Prudential.

Nevertheless, one in four couples intend to let families have their unspent retirement savings to avoid inheritance tax.

Here’s how the measure works:

  • If a defined contribution pension saver dies before the age of 75 and has cash left in their fund, their beneficiaries can take the money tax-free providing it is in drawdown or paid as lump sums
  • If the saver dies aged 75 or over, the beneficiaries can take the remaining pension cash as a lump sum with tax due at their marginal rate

The advantage is if the beneficiary is a basic rate taxpayer, income tax is paid on the lump sum at 20% rather than the inheritance tax rate of 40%.

Booking.com

Spending pension cash

Combined with the new inheritance tax rules that allow couples to extend their nil-rate band up to £1 million when leaving their home to children, the pension freedom measure takes even more cash out of the 40% tax threshold.

Research by Prudential found that although they are more relaxed about leaving money to their families under the new tax regime, a third are still concerned they will run out of cash during their retirement.

The firm also asked couples approaching retirement how they plan to spend their pension cash.

The most popular responses were:

  • Going on holiday (26%)
  • Repaying borrowed money (25%)
  • Paying for home improvements (17%)

Working past retirement

Vince Smith-Hughes, retirement income expert at Prudential, said: “The new pension freedoms are definitely giving people more options and many are thinking about the best way to spend their retirement savings before taking action.

“It’s obvious many want to have a comfortable retirement but also want to help their families with some extra cash.

“We feel the study shows people intend to work longer and feel they won’t have to touch their pensions until well past what was once considered the traditional retirement age.”

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