The lifetime allowance was abolished on 5 April 2024. However, there are instead new rules limiting the tax-free lump sum payments from pensions both in lifetime and on death.

This article considers the Individual Lump Sum Death Benefit Allowance (ILSDBA) and how it changes the taxation of your pension death benefits. 

The standard ILSDBA is set at £1,073,100. Those with lifetime allowance protections will have higher amounts. For example, if you have Fixed Protection 2014 you will have an ILSDBA of £1.5m. Let us know when you come in for your pensions review whether you think you have previously taken out LTA protection.

What hasn’t changed – death aged 75+

If you die aged 75 or over, any death benefits become taxable and so the limits on tax free death lump sum payments have no relevance. These benefits remain taxable at your beneficiary’s marginal rate of income tax. Where the benefits are paid as a lump sum to an individual the tax is due at that point. Where they are used to provide an income, the tax applies as and when the income payments are received.

Deaths under aged 75 – now only lump sums are tested

The key point here is that, where you die under age 75, if all the benefits are paid as flexi-access income drawdown they are paid free of tax and without limits. This is because only lump sums are now tested.

Therefore pre – 75 pension death benefits are now extremely generous.

Post 5th April 2024 drawdown benefits are now tested

A key change under the new rules is that funds in drawdown are now tested against the ILSDBA when paid out as a lump sum, whereas previously they were not.

Importantly, though, any funds already in drawdown on 5 April 2024 are exempt. HMRC's logic to this is that they will already have been tested against the lifetime allowance and so should not be tested twice. Funds placed into drawdown from 6 April 2024 will not have previously been tested and so should be tested on death.

Always use flexi-access income drawdown where possible

Where a pension saver dies under the age of 75, tax charges can be avoided or reduced by using drawdown. However, it isn’t always possible or preferable to pay the benefits as drawdown.  

There will be some, usually older, products that don’t have the flexi-access income drawdown option. Where you have benefits in excess of your ILSDBA this could be a strong reason to consider a transfer. 

Certainly, usually drawdown remains the most attractive option, especially for those with funds over their ILSDBA. The funds can be paid free of tax, remain outside of the estate, continue to grow free of income and capital gains tax, and benefits can be drawn as and when required.

Key Financial Planning Points:

Deaths aged or over 75

• For deaths where the member dies aged 75 or over, nothing has changed - all benefits are taxable at the beneficiary’s marginal rates.

Deaths under 75

• For deaths under age 75, only lump sum death benefits are tested. 

• Benefits up to the available ISDBA can still be paid free of tax.

• All benefits can be paid free of tax where drawdown is used.

• Benefits placed into drawdown from 6th April 2024 onwards are tested against the ILSDBA when paid out as a lump sum.

• Where a beneficiary with a drawdown fund dies, these are tested against their ILSDBA if benefits are paid out as a lump sum.

Expression of Wishes

Reviewing your Expression of Wishes is key. If you want someone who is not a financial dependant, say a child who is 23 years of age or over and who is not in full time education, to benefit from drawdown after your death, you should ensure that the child is named.

This is because if there is a financial dependant, and the client wants the funds to go to someone else, or the dependant doesn’t need them, the other beneficiary can only receive a lump sum if they are not named.

If you would like to discuss your pension arrangements or take advantage of a complimentary pension review, please don’t hesitate to get in touch. Call 0117 3636 212 or email office@haroldstephens.co.uk to book your appointment.