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Drawdown and inheritance

Recent changes to the law make it much easier to take drawdown, rather than purchasing an annuity, to turn your pension pot into a income for retirement.

One of the benefits of taking drawdown is that any remaining pension pot can be inherited by your chosen beneficiaries, normally tax-free, if you die before you reach the age of 75. If you die after the age of 75, any funds left in your pension pot will be subject to Income Tax.

If you die before you reach the age of 75

Funds held in a pension wrapper are usually held in trust which means that it will not count as a part of your estate for the purposes of Inheritance Tax.

Beneficiaries, chosen by you, can:

  • Inherit the whole remaining pension pot, usually tax-free
  • Remain in drawdown and take an income which will be subject to their marginal rate of income tax
  • If a spouse, civil partner or dependent, use remaining funds to purchase an annuity if they wish too

If you die after you reach the age of 75

Any beneficiary can inherit the fund, and they will have several options:

  • They can take it as a lump sum, but there will be a 45% tax charge.
  • They can continue to take a drawdown income, which will be taxed at their marginal Income Tax rate.
  • They can use the fund to purchase an annuity, which will provide them with a regular income for life. The income from the annuity will be taxed at their marginal Income Tax rate.

Again, the fund will not usually be subject to Inheritance Tax.

Other potential charges

Although a pension fund will not usually be subject to Inheritance Tax, there are a couple of cases when your beneficiaries may have to pay a charge after you die:

  • Any payments you make into your pension pot during a period of ill health, or in the last two years of your life, could be subject to Inheritance Tax.
  • If you die before the age of 75 and your pension contributions have exceeded the lifetime allowance of £1 million, your beneficiaries may have to pay an additional tax charge.

Getting advice

Inheritance is just one of the many things you'll need to consider before you decide to take drawdown from your pension pot. Because there are so many options open to you, it's important to take financial advice before accessing your pension pot.

Last updated: 05 April 2016

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