Tax dodge of the week: Buying annuities not such a bad idea after all

One of the much-heralded changes to the pension rules on A-Day next year is that pensioners will no longer be compelled to buy an annuity, says James Brooke, financial architect at Anand Associates (Anandassociates.co.uk).

However, wealthy pensioners may find that buying an annuity could be a more tax-efficient way of passing on pension wealth to their heirs than the new Alternative Secured Pension.

Because pensioners will, as of A-Day, be able to defer annuity purchase indefinitely, the Government is proposing to levy inheritance tax on residual assets on death.

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To reduce this final tax bill, James Brooke suggests purchasing an annuity and gifting the income to beneficiaries through a trust. Provided this income is considered to be "in excess of the amount required to maintain the pensioner's standard of living, the gift may be considered to be normal expenditure out of income", and as long as the pensioner can prove his or her intention to "regularly give this excess income away, then such gifts will fall outside the client's estate and thus be exempt from inheritance tax" (although the annuity payments will still, of course, be subject to income tax).

Another advantage of this is that heirs will have funds to settle the inheritance-tax bill: you are currently not allowed to withdraw money from a pension fund to pay inheritance tax.