The “majority” of Britons may not know that money held in a pension is free from inheritance tax, research shows.
According to research by PensionBee, nearly two-thirds (62 percent) of Britons are unaware that pensions generally fall outside of their estate, meaning they usually do not count towards their inheritance tax threshold when they die.
Among the 39 percent who recognised that pensions are usually exempt from the tax, just over half plan to, or already have moved money into their pension to reduce the size of their estate.
Becky O’Connor, director of public affairs at PensionBee, said: “One of the benefits of saving into a pension rather than some other investment products or assets is that money held in a pension is usually free from inheritance tax because it is considered outside of someone’s estate.
“Our research suggests the majority of people don’t know about this benefit. The risk of someone not knowing is that estate beneficiaries could ultimately miss out or pay more tax than necessary on someone’s life savings and investments.
“It’s important to understand pensions and the way they are taxed for successful long-term financial planning. Inheritance tax planning is one area where pensions may be being underused.”
To tax-plan efficiently, Ms O’Connor said: “Consider pension drawdown. If you have multiple sources of retirement income or other assets, it may be sensible to consider using a pension drawdown.
“Pension drawdown allows you to keep your pension invested while taking withdrawals as needed, potentially reducing the size of your estate subject to inheritance tax.”
Additionally, people can set up pension beneficiaries. Ms O’Connor explained: “By naming beneficiaries directly to your pension provider, you can easily pass on your pension savings after you die.
“The exact amount you can pass on tax-free to your beneficiaries after you pass away depends on your age and whether you have started accessing your pension.
“If you pass away before age 75, then beneficiaries would also benefit from not paying income tax on withdrawals from your pension.”
However, Ms O’Connor urged people to make sure to keep their ‘nomination of beneficiaries’ form up-to-date.
Finally, the pensions expert suggested people review their financial planning regularly.
She explained: “Personal circumstances and financial situations can change over time, so it’s essential to review your pension arrangements and estate planning regularly.
“This ensures that your plan remains aligned with current goals and objectives and ensures maximum benefit from pension exemption from inheritance.”
Inheritance tax is charged on the value of an estate above the £325,000 threshold. This is known as the nil-rate band.
The standard rate of inheritance tax is 40 percent on the value of an estate above the nil-rate band.
Additionally, there is a main residence nil-rate band that enables people to leave their homes to family tax-free. Under the rules, those passing their home to a direct descendant can benefit from £175,000 in tax-free allowance (2023/24).
However, married spouses and civil partners may be able to apply any unused allowance of their deceased partner, meaning they can pass on as much as £1,000,000 as a couple.
Ms O’Connor noted: “Estate planning can help minimise the impact of inheritance tax on beneficiaries. This may include making gifts during their lifetime, setting up trusts, or making use of exemptions and reliefs.”
For more inheritance tax tips, read our full guide here.
