A pension is typically a person’s most valuable asset after their home, so it is important to know how it could be passed on to your loved ones. But what actually happens to your pension when you die?
Retirement wealth is set for a shake-up from April 2027, when pension savings will be included as part of estate calculations for inheritance tax (IHT).
This could easily push your estate above the £325,000 IHT threshold when you combine pension savings and property wealth.
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That will impact how much you can leave behind from a defined contribution (DC) pension when you die and how much will go to the taxman, making it all the more important to have your paperwork in orderto avoid IHT penalties.
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Aviva research suggests one in six UK adults with a partner do not know who will inherit their pension savings if they die before taking them.
This figure rises to one in four among partners who are living together but are neither married nor in a civil partnership.
A worrying 3% of savers said the person they have nominated may now be their ex-partner.
“It's not surprising that people lose track of their pensions and therefore cannot remember who their pension beneficiary is,” said Jo Phillips, managing director of Aviva’s direct wealth business.
“Some pension policies will date back decades and it’s likely that many people will have changed jobs, moved house and even been married, divorced and married again, in the intervening years.”
But it will become all-the-more important to name a beneficiary from April 2027 due to how your pension will be treated when you die.
What happens to your pension when you die?
Currently, your pension isn’t legally part of your estate, meaning it is not covered by your will. But with the forthcoming changes to IHT rules, it is important your pension is mentioned when writing a will.
But, to ensure it goes to your loved ones as intended, you need to make arrangements with your pension provider by filling in a form. This is often known as an expression-of-wish form or a beneficiary nomination form.
A pension provider isn’t legally bound by the request, but they will take it into account. If you have several pensions with different providers, you will need to complete a form for each one.
Naming a beneficiary will become even more crucial from April 2027 – at least from a tax perspective – as new inheritance tax (IHT) rules on pensions come into force.
Completing an expression-of-wish form will become an important part of tax planning as a result.
For example, leaving assets to your husband, wife or civil partner will not generate an IHT bill as assets can be passed to a spouse tax-free, whereas leaving them to other beneficiaries could, if you have already exhausted your tax-free allowances and pass away after April 2027.
The amount of tax your beneficiary pays could also vary depending on whether they are a basic, higher or additional-rate taxpayer, as they will generally have to pay income tax on withdrawals from the inherited pot, as well as IHT. See our piece on the 67% IHT trap on pensions for further details.
While you don’t need to mention your pension in your will if you have named a beneficiary, you can mention it there if you would like to eliminate any doubt over your wishes. Make sure the details on your will and expression-of-wish forms match.
Just one in 10 people under the age of 30 have completed an expression-of-wish form, worrying data from investment platform Hargreaves Lansdown shows. Forty percent of over-60s have not set out their intentions.
On average, men (40%) are slightly more likely than women (34%) to have named a beneficiary.
“It’s a risky oversight for several reasons. First and foremost, not updating your expression-of-wish form after key life events – such as divorce – may lead to unnecessary delays in loved ones receiving money when you die,” said Clare Stinton, head of workplace saving analysis at Hargreaves Lansdown.
“It could even mean an ex-partner gets the benefit rather than a current one. This can lead to all kinds of financial issues while the situation gets sorted out.”
Income tax on inherited pensions
Under current rules, pension funds can typically be passed on free of inheritance or income tax if the owner passes away before 75 years old.
If you die after age 75, the beneficiaries receiving your pension will need to pay income tax on any withdrawals.
From April 2027, inheritance tax will also be due on pensions that are passed on regardless of how old you are when you die.
What happens to defined benefit pensions after you die?
Defined benefit (DB) pensions work differently to DC schemes as there is no pot of money to pass on.
Currently, if you die and have a DB scheme, your partner may be eligible for a dependant’s pension, which is a percentage of your promised pension paid as an income or a death-in-service lump sum.
The same income tax rules as above apply if you die with a DB scheme before or after age 75 and any death benefits could be liable for inheritance tax from April 2027.
Ensuring you nominate a spouse as a beneficiary will mean the money is passed on without any inheritance tax to pay.
How to name a beneficiary for your pension
Naming a pension beneficiary is quick and easy, taking no more than a few minutes by completing a form from your provider, and it can help ensure your hard-earned savings are distributed in line with your wishes after your death.
Your pension pots could be worth thousands of pounds, meaning a little admin is more than worth the hassle.
If you have lost track of a previous pension pot and want to update your details, including the beneficiary, contact your past employers to find out who the pension provider is before getting in touch.
You will usually need your National Insurance number and details of when you worked there to help track it down.
You can also use the government’s free pension tracing service.
“Whatever the size of your pension, the money belongs to you, so it’s important to make sure you've made plans for it in case something happens,” Phillips added.
“By keeping your pension beneficiary information up to date, you could be providing security and peace of mind for your loved ones.”
What happens to your pension if you haven’t named a beneficiary?
If you die without naming a beneficiary, the trustee of your pension scheme should make enquiries to identify potential beneficiaries. However, you are taking a risk.
Failing to complete or update your nomination could leave your loved ones facing delays in accessing funds, or land them with an inheritance tax bill that could potentially have been avoided.
“An outdated nomination [also] risks the money ending up in the wrong hands,” Stinton said. “Marriage, divorce, new loved ones, or changes to your health, as well as new tax rules, are all reasons to review your nomination.”
“Whether you’re in great health or facing uncertainty, now is the time to review who you’ve nominated – and why.”
