How pensions can cause an Inheritance Tax problem

A penison is a tax efficient way of providing for our old age. Whatever we might think about their performance, there can be no denying the tax benefits of investing in this way. However, there is one tax which is often forgotten when it comes to pensions – Inheritance Tax (IHT).

Most pensions are set up in such a way that the individual does not own them; they are held by the pension trustees. What this means is that if you die before you are taking an income from your pension, although the lump sum in your fund will pay out to your nominated benficiaries, it does not go into your estate. Accordingly, there is usually no IHT liability, which is why many people disregard IHT when it comes to pensions. But there is a sting in the tail.

If you have a pension pot of £200,000 and pays out to your spouse if you die, it is now in their estate when they die, at which it could very much cause IHT to be paid if they have over £650,000 of assets when they die. The answer is to set up a Pilot Trust (sometimes known as a Spousal Bypass Trust). You then inform your pension trustees that, if you die, your benficiary should be the Spousal Bypass Trust, thereby keeping it out of your spouse’s estate when they die. Your spouse may still have access to the trust, but they would most likely take any assets by means of a loan, so that it does not increase their taxable estate. In the case of a £200,000 pension fund, this might save as much as £80,000 in tax later on, so it’s well worth considering.

Each pension fund is different and with some pensions different rules may apply. Nothing contained is this article should be construed as investment advice.

Why not give us a call on 01473 276186 to find out if this trust could help reduce your IHT bill.

Stephen Wilkes, STEP Adv. Cert. Will Prep (England and Wales)

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