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Telegraph
6 days ago
- Business
- Telegraph
‘I took a lump sum from my late wife's pension. Why have I been taxed?'
Write to Pensions Doctor with your pension problem: pensionsdoctor@ Columns are published weekly. Dear Charlene, My wife died on February 1 this year. She was the recipient of a small pension paid from her former employer. I was aware that I had an entitlement to half her pension. However, when the offer letter arrived, it stated that I was entitled to take a lump sum, which I have done. I've sent you copies of the letters from the scheme. When payment was made by the pension fund, income tax was deducted at 20pc on the whole amount. This is my correct tax rate for other income. Although this was my wife's pension fund, am I entitled to any of it tax-free? I've read that some pensions can be paid tax-free when someone dies. Would that be the whole amount tax-free, or just the 25pc allowance, or nothing at all? When we retired in 2001, our pension funds did not come anywhere close to the new maximum allowance of £268,275. Sincerely yours, – Gary Dear Gary, Please accept my condolences on the death of your wife. I've had a look at the documentation you've sent, and I'm afraid you are unlikely to be due any tax-free payments from your wife's former scheme, for reasons I will explain. I also think HMRC has probably applied the correct tax rate to the lump sum you've been paid. Your late wife was receiving a 'scheme pension' from her former employer's scheme, which is a type of secure pension, payable directly from an employer's defined benefit scheme. The exact details vary, as they depend on the rules for each scheme, but benefits can be paid to a spouse or dependants when the original pension member passes away. Where retirement benefits have already started, and have been in payment for some time, the option is usually a reduced pension to a surviving spouse or other dependant. As you mention, your wife's scheme would have paid you 50pc of her ongoing pension. Some dependant's pensions can be commuted and taken as a lump sum if worth £30,000 or less. In pensions jargon, this is known as a 'trivial commutation lump sum death benefit', but put simply, involves exchanging the ongoing small pension for a lump sum that ends your rights to ongoing payments from the scheme. This is the option you chose. Taxation A spouse's pension (including one commuted as a lump sum) from a defined benefit scheme will be taxable as income for whoever receives it – even if the original pension holder died before age 75. This is different to the death benefits that can be paid from other types of pensions, like self-invested personal pensions (Sipps). For defined contribution schemes where there is an unused pension pot, a beneficiary will not pay income tax on what they receive if the member passed away before reaching age 75. Income tax is payable on withdrawals paid to beneficiaries of a pension holder who died after reaching age 75, and unused pots will be included in estates for inheritance tax from April 6 2027. As you've mentioned, the scheme administrator has deducted 20pc income tax from the whole of the lump sum payable to you. Based on what you've told me, and that you've mentioned you're already a basic (20pc) taxpayer, I think this was the correct way to tax the payment. You'd already be a basic-rate taxpayer if you are receiving your state pension and this, together with any other pensions or taxable income, is worth more than the tax-free personal allowance of £12,570 each year, but less than £50,270. Anyone who thinks they have been overtaxed on a lump sum payment paid when someone has died can contact HMRC. It has different forms depending on the situation, and will usually process any repayments within 30 days. Tax-free cash allowance When someone accesses their own pension, they can usually take up to 25pc of the value as a tax-free lump sum. But there is also an overall cap on the value of the tax-free lump sums someone can receive from their pensions in their lifetime. This is the lump sum allowance of £268,275 that you've referred to. Unfortunately, you do not inherit unused lump sum allowance from other people. As I've mentioned above, some death benefits can be paid entirely tax-free if the pension holder died before age 75, but for defined benefit pensions, any spouse's or dependant's pension will always be taxable. I hope I've explained how and why you've paid tax on the lump sum. If you do think you might have paid too much tax, then please do get in contact with HMRC. Yours sincerely, – Charlene Charlene Young is a pensions and savings expert at online investment platform AJ Bell. Her columns should not be taken as advice or as a personal recommendation, but as a starting point for readers to undertake their own further research.
Telegraph
28-07-2025
- Business
- Telegraph
‘My wife and I have £700k pensions written in trust – can we dodge Labour's inheritance tax grab?'
Write to Pensions Doctor with your pension problem: pensionsdoctor@ Columns are published weekly. Dear Charlene, My wife and I both have Sipps (self-invested personal pensions) with a combined value of around £700,000. When they were set up over 20 years ago, the documents referred to how they are 'written in trust'. I understand that changes are because of inheritance tax rules from April 5 2027, but I'm now worried as our other assets already take us up to the inheritance tax allowances. We've given the pension providers details of who our preferred beneficiaries are upon death. But if we die after the changes in 2027, will both of our Sipp funds be subject to inheritance tax at 40pc? Or does the 'written in trust' have any relevance to the tax payable? We don't have a financial adviser. Many thanks, – Don Dear Don, Thank you for writing in. Your question is very timely, as the Government has just provided an update and the draft rules for how pensions and inheritance tax will work. At present, pensions are generally not included in the value of your estate when you die. For pensions written under trust (like your Sipps), the trustees and/or the scheme administrators have full discretion as to whom any death benefits are paid. It's very rare that nominations are not followed, but this discretion is currently what helps to keep pensions outside of estates and out of the clutches of inheritance tax. Unfortunately, the Government has confirmed its plans to include unused pensions in the value of an estate. As you've mentioned, the new rules would apply for deaths on or after April 6 2027. This is despite receiving hundreds of responses highlighting problems with the proposals and alternative ways to raise the same amount of tax revenue from pensions on death in a more straightforward way. Although your Sipps will continue to be trust-based pension schemes, and trustees should retain discretion over who can be paid death benefits, I'm afraid this will no longer exempt them from inheritance tax. The Government did announce an important change to the proposals – the executors or personal representatives of an estate will now be responsible in the first place for handling the reporting and payment of any inheritance tax on unused pensions, not the pension provider. This is consistent with non-pension assets, and could mean the tax can be settled from other accounts, but still undoubtedly adds to the burden on the bereaved. What will be included? The changes don't mean that all pensions suddenly get hit with 40pc tax. Whether any tax applies will depend on the value of your pension when you die, your other assets, and who you plan to leave them to. There will still be exemptions for dependents' pensions provided by defined benefit schemes (like those enjoyed by the public sector), survivors' pensions paid under an annuity and eligible lump sums paid to charities from unused pensions, including Sipps. Anything left to a surviving spouse or civil partner will also be exempt from inheritance tax, but this could mean potential tax is stored up until the date they pass away if they don't spend the funds in their lifetime. If you both plan to leave your respective assets (including Sipps) to each other, there will usually be no inheritance tax to pay on the first death. When the survivor passes away, their estate will be able to use both of your standard nil-rate bands (£325,000 each), and potentially both of your residence nil-rates bands (up to £175,000 each). This extra band is available to set against a residential property left to your direct descendants, but starts to be tapered away for estates worth more than £2m. Inheritance tax will apply above allowances and reliefs, usually at a rate of 40pc. This could be taken from the pension assets, or from other cash or assets held in the estate. It will be for the personal representatives of the estate and the beneficiaries to decide who pays and from where. What can I do if I'm concerned about inheritance tax? You've told me you don't have a financial adviser, but estate planning and tax can get very complex. A good financial planner will be able to talk you through possible strategies for making the most of your pensions and other savings in your lifetime and plans for when you are gone. They can also help you avoid costly mistakes of getting it wrong. It's likely that we will see more people spend more of their pensions on themselves in their lifetimes. But people often also ask me about giving money to others from their pensions. While you cannot directly gift your pension to another person, you can use withdrawals from it to fund gifts to loved ones. If it doesn't leave you short of funding your own retirement plans (or any care you might require), taking regular extra income to fund gifts could be a way of reducing your taxable estate and bringing forward some of the legacy gifts you might have in mind. After any tax-free cash allowance you have left, you'll pay income tax on the withdrawals and that might tip you into a higher income tax bracket. I've outlined the rules that can apply to making gifts in a previous letter, and explained how to make pension contributions now to your intended beneficiaries. The proposals will feel particularly unfair to older pensioners, who perhaps do not have as long left to reorganise their finances to minimise tax. It's unlikely they will be able to get insurance to help their loved ones meet the increased cost of any inheritance tax bill at a reasonable price either, although it might be an option for some people to consider. I'm afraid this is unlikely to be the positive answer you were hoping for, but I do hope it can help give you clarity and perhaps some next steps towards any plans or changes you might be considering. Best wishes, – Charlene Charlene Young is a pensions and savings expert at online investment platform AJ Bell. Her columns should not be taken as advice or as a personal recommendation, but as a starting point for readers to undertake their own further research.
