Sharp rise in savers using pension pots to shelter wealth from 40pc inheritance tax
Billions of pounds are being passed down the generations – and bypassing inheritance tax – as savers exploit a lesser-known advantage of the “pension freedoms”. This set of reforms, applying from April 2015, made it easier to pass unused pension assets from one generation to another. New figures from the City regulator reveal the extent to which families are now benefiting from this.
A Freedom of Information request obtained by Telegraph Money shows how much money has been moved into “drawdown” accounts by people of different ages – including those under 55. “Drawdown” accounts are those where savers can access their pension cash but for the most part it continues to be invested.
People need to be a minimum age of 55 in order to move their own money into a drawdown arrangement. So where younger age groups are shown to have these types of accounts, it can be assumed that they have inherited the money from somebody else, typically a parent.
In the 2016-17 tax year as much as £2.1bn was held in drawdown accounts by under-55s, suggesting it was inherited. This represents a rise of about a third on the previous year, when £1.6bn was inherited. Tim Holmes, of Salisbury House Wealth, a financial advice firm, said the figures showed how pensions were being used as a “multi-purpose tool” in inheritance tax planning.
The 2015 pension reforms, the brainchild of then chancellor George Osborne, included abolishing the 55pc “death tax” on pensions. Since then, money is passed on entirely tax-free if the original saver dies under the age of 75.
Where death occurs over 75, recipients pay tax at their usual “marginal” rate of income tax. With careful planning, that means in some cases tax can be avoided entirely. For instance, a grandchild could inherit a pension and limit withdrawals to under £11,500 a year, the current level of the “personal allowance”, and never pay any tax.
Mr Holmes said: “Before the 2015 tax changes, there was a tendency to run down assets in pension schemes. But now, if someone wants to pass their pension on, they will be looking to preserve as much value as possible.”
As a result of the changes advisers now recommend savers spend their Isas or other investments – which are likely to attract inheritance tax – ahead of their pensions.
More people are being caught by inheritance tax as booming house prices and stock markets have pushed household wealth beyond the inheritance tax allowance, which has been frozen for years.
Each individual can pass on £325,000 free of inheritance tax, and an additional £100,000 where it applies to a main residence passing to direct descendants.
Inheritance tax is due at 40pc on assets over this amount.
The pension freedoms are open to anyone 55-and-over with a “defined contribution” (sometimes known as “money purchase”) style pension.
These are the dominant form of saving for today’s workers. When the freedoms were announced there were fears some pensioners would waste their money on fast cars and be left with little or no retirement income. Around £16bn is thought to have been withdrawn this way since April 2015.
More people are realising they can avoid death duties using pension freedoms, reports Sam Brodbeck