It's not the cheeriest topic, is it? Thinking about what happens to your pension when you die. But honestly, it's one of those practical, if a little somber, conversations that can make a world of difference to the people you leave behind. So, let's dive in, shall we?
The short answer is: it depends. A lot. Your pension's fate hinges on a few key things: whether you've hit retirement age, the specific type of pension you have, your marital status, and crucially, who you've nominated to receive it.
The State Pension Puzzle
When it comes to the state pension, things can get a bit nuanced, especially depending on which version you're on. If you reached state pension age before April 6, 2016 (the 'old' state pension), there's a possibility of inheriting some of your spouse or civil partner's pension. This could mean topping up your own National Insurance record with their eligible years, potentially boosting your basic state pension. You might also be able to claim a portion, often around 50%, of their additional state pension or graduated retirement benefit. If you're unsure, the Pension Service is your go-to for checking what you might be entitled to. Just a heads-up, though: children or partners you weren't married or in a civil partnership with generally aren't eligible for anything here.
For those on the 'new' state pension (from April 6, 2016 onwards), you can't claim your partner's National Insurance qualifying years. However, if your partner built up more than the full state pension amount, that extra bit is considered a 'protected payment,' and half of it can be passed on to a spouse or husband.
Private Pensions: Defined Benefit vs. Defined Contribution
Now, let's talk private pensions. These tend to fall into two main camps: defined benefit and defined contribution.
Defined Benefit Pensions: These are less common now, often found in public sector or older workplace schemes. They promise a retirement income based on your salary and how long you contributed. If this is your pension, the rules of the scheme will dictate what happens to the money. Typically, a spouse might receive about 50% of the pension. There's also a possibility for children under 23 who are in full-time education, or those with mental or physical impairments, to receive a percentage. Penny Cogher, a partner at Irwin Mitchell LLP, rightly points out the importance of couples checking the specific scheme rules to ensure a spouse actually qualifies for a pension, as there can be nasty surprises if they don't meet certain criteria, like being married at the right time. Some schemes might offer children's pensions, but it's not a universal requirement.
Defined Contribution Pensions: This is where you've built up a pot of money. When you die, what's left can be passed on in a few ways. Your beneficiaries could take it all as a lump sum, set up a guaranteed income known as an annuity, or opt for a flexible retirement income called 'pension drawdown.'
If you chose an annuity, its fate depends on the type you bought. A joint life annuity can be passed to a second person, whereas a single life annuity usually ends with you, though some offer guaranteed periods. If you're in drawdown, or still working, any remaining funds can be passed on to family or anyone you've nominated. It's really important to have an 'expression of wish' form in place. While the scheme trustees usually follow these nominations, they aren't legally bound to. Gorkem Barron from Lubbock Fine Wealth Management highlights that without one, the trustees decide, and their decision might not align with your wishes.
What About Taxes?
Currently, pensions themselves aren't subject to inheritance tax. However, this is set to change. From April 2027, most lump sum death benefits and unused drawdown funds will fall under inheritance tax rules. Remember, the first £325,000 of an individual's estate is exempt. Also, moving pensions to certain overseas jurisdictions to reduce tax liabilities is becoming less of an option. Inherited pensions can also be subject to income tax, and the rules can be a bit complex, especially if you die before age 75 and are leaving money from a defined contribution pot.
