Key points and Lifetime Allowance changes for pension planning at 75: what you need to know now and for the 2024/25 tax year

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We are long past the days of having to take an annuity by age 75 or having to take pension commencement lump sums before 75. 

So, what are the benefits of planning for age 75?  

Removal of the Lifetime Allowance  

There is an increased focus on planning in view of the abolition of the lifetime allowance charge in April 2023 and the pending abolition of the lifetime allowance from 6 April 2024.  

During the 2023/24 tax year benefit crystallisation events (BCE) tests will still happen when members reach age 75 with uncrystallised benefits, but there won't be any lifetime allowance charge if the lifetime allowance is exceeded. Instead, benefits in excess of the lifetime allowance will be taxed at the members marginal rate once they are put into payment.  

The only BCE which can occur after age 75 is when a pension in payment is increased beyond a certain level.  

For those that reach age 75 from 6 April 2024, the lifetime allowance will be removed, and BCE tests at age 75 will no longer happen. Instead, only tax-free lump sums will be tested against the new lump sum allowances once they are paid, before or after age 75. 

Annuities 

As pension death benefits are no longer tax free once you reach age 75, the tax benefit of not accessing your pension disappears. Pensions can be used to secure an annuity both before and after age 75.  

Older clients may have more predictable income requirements where for some the benefit of flexibility drops away. Clients may also qualify for enhanced annuity rates based on their health, so the relative value of an annuity could be significant. Annuities can also be built around providing an income for a dependant, so can be more versatile than first thought.  

Drawdown  

Existing drawdown accounts can continue after age 75 and investments continue to benefit from the tax advantaged pension wrapper. Uncrystallised pensions can also be converted to drawdown after age 75.  

In contrast to those who could benefit from an annuity, some clients, especially those with secure income elsewhere, may benefit from retaining funds in drawdown with the flexibility to draw from the pot as and when needed. Whether income is drawn pre or post age 75 it will be taxed under PAYE.  

Drawdown allows funds to be retained in a pension environment outside of the estate, generally free from inheritance tax (IHT). The pension funds can be passed to family through beneficiary drawdown, and succession planning.  

Until 6 April 2024 any fund growth in drawdown plans from the amount initially designated to drawdown will be tested at age 75 as a BCE, so may use up more of an individual’s lifetime allowance. Clients can draw income ahead of age 75 in order to reduce the fund value which is tested. However, with the lifetime allowance being removed from 6 April 2024 any additional value that crystallises as a result of increased drawdown value at age 75 shouldn’t restrict any tax-free lump sums after that date.  

Pension commencement lump sum (PCLS)  

It is possible to take a PCLS from a pension after age 75 providing there is available lifetime allowance (ignoring any lifetime allowance used at age 75). From 6 April 2024 there will need to be available lump sum allowance and lump sum and death benefit allowance in order to take PCLS, and only the amount within the allowance would be tax free, the excess would be taxable at the marginal rate.  

As pension death benefits are taxable after age 75, where tax free lump sums are available you should consider whether using PCLS will be more tax efficient for your clients. Doing so would add funds to the members estate (if it’s not used) which could push the estate value over the nil rate band. Depending on the tax status of the beneficiaries, a resultant inheritance tax charge at up to 40% could be greater than the income tax charge on the death benefits. 

Death benefits  

On death, it’s possible to pass on any unused pension wealth to family members. Given the pension wrapper allows for tax advantaged investments and does not form part of the estate, this can be a tax efficient way of accruing and passing on wealth.

After age 75 death benefits are taxable at the marginal rate of the recipient, so it’s prudent to review the nominated beneficiaries for each pension. Clients may consider changing their nominated beneficiaries to family members who might be non-taxpayers or pay basic rate tax, to make the arrangement more efficient.  

The legal personal representatives (LPR’s) generally have the power to determine the order in which different pensions are taken. This could be useful in in the event of death pre age 75 to ensure: 

• pensions nominated to higher taxpayers are within the lifetime allowance or lump sum and death benefit allowance and are therefore tax free.  
• that payments above the allowance that are taxed at the recipient’s marginal rate are made to lower rate taxpayers.  

It’s important to consider whether your client’s pension will support beneficiary drawdown. For some older plans this may not be available, and that could restrict the options available when your client dies. If beneficiary drawdown forms part of the overall inheritance planning, then you may wish to consider transferring to a product which could facilitate a wider range of options. 

Drawing income from inherited pension funds does not trigger the money purchase annual allowance (MPAA), so it doesn't restrict the beneficiary's ability to fund their own pensions.  

Death benefits paid to trusts or legal personal representative (LPR's)

Death benefit lump sums that would be taxed at marginal rate if paid to an individual are instead taxed at 45% if they are paid to a trust or the LPR of the deceased’s estate. 

Where paid to a trust this charge can be used as a tax credit by the ultimate beneficiary of the trust to offset their own income tax liability. However, where paid to the LPR there is no tax credit to pass on, so the 45% charge will generally be a higher tax rate than would apply to most individuals. 

If a client has a policy that must be paid to the estate, such as a S226 retirement annuity, you should consider setting up a trust instead as it is more tax efficient for most beneficiaries. It also allows your client to specify the beneficiaries of that trust.
 

Overview of how death benefits are changing  

From 6 April 2023 to 6 April 2024 

• Where someone dies before age 75: 
  • then the pension benefits up to the lifetime allowance are tax free (so long as payments are made within two years of notification of death).  
     
  • benefits that exceed the lifetime allowance are subject to income tax at the recipient’s marginal rate.  
• Where someone dies after age 75, regardless of whether the benefits are uncrystallised or in drawdown, death benefits paid as a lump sum, or an income are subject to income tax at the recipient’s marginal rate.  

From 6 April 2024

The abolition of the lifetime allowance and the introduction of the lump sum and death benefit allowance sees a change to how death benefits are treated at age 75 and more broadly.   

• If death happens before age 75: 
  • lump sum death benefits within the lump sum and death benefit allowance will be tax free.  
     
  • lump sums death benefits in excess of the lump sum and death benefit allowance will be subject to income tax at the recipient’s marginal rate.  
     
  • any death benefits taken as drawdown or an annuity, will be tax free and are not considered against the lump sum and death benefit allowance. Meaning there is no cap to the amount that could be taken as an income option paid tax free. This is a significant change detailed in the current draft of the Finance Bill. 
• Where someone dies after age 75, regardless of whether the benefits are uncrystallised or in drawdown, death benefits paid as a lump sum, or an income are subject to income tax at the recipient’s marginal rate.  

Example

Mr Burgess has crystallised a pension valued at £500,000 against the lifetime allowance of £1,073,100; of which, £125,000 was taken as PCLS with £375,000 converted to drawdown.  

Mr Burgess has a further pension valued at £1,000,000. 

In the event of death before age 75, the following table shows how the pensions would be treated for tax purposes before and after 6 April 2024.   

Pre 6 April 2024	From 6 April 2024
£1,073,100 - £500,000 =   £573,100 available lifetime allowance which can be paid tax free.	£1,073,100 - £125,000 =   £948,100 available lump sum and death benefit allowance which can be paid tax free.
£1,000.000 - £573,100 = £426,900 remaining fund which will be taxable if paid as a lump sum, drawdown or an annuity.	£1,000,000 - £948,100 = £51,900 remaining fund.   This would be taxable if paid as a lump sum, but this value could instead be taken as drawdown or an annuity and be tax free.
The drawdown fund of £375,000 would be available tax free. Payment would not be a BCE, and benefits were already tested against the LTA.	The drawdown fund of £375,000 would be taxable if paid as a lump sum, but this value could instead be taken as drawdown or an annuity and be tax free.

Contributions 

Before a client reaches age 75, contributions to pensions benefit from tax relief whether through ‘relief at source’ or ‘net pay’. Clients who have available annual allowance may wish to make contributions in the tax years whilst they have relevant income to do so. Pension contributions will also help remove value from the estate.  

It’s possible to continue to contribute to a pension plan after age 75, but there’s no tax relief available, as a result many providers do not accept contributions after age 75.  

Investments 

Some pension plans contain provisions which limit investment options after the age of 75. This is common for with-profits funds which often do not permit members to remain invested after age 75. Many providers will have a default fund switch approach where members are no longer able to stay invested in these funds. These investment strategies should be reviewed and planned for, as they typically involve lower risk funds, and these funds may not be appropriate for everyone.  

Finally 

Older products in particular may not allow clients to stay in their pension after age 75, may not permit nominations of death benefits and certain investments strategies may no longer be available. Several options discussed above can only be achieved if your clients are invested in products which are flexible enough to offer drawdown or beneficiary drawdown.   

It’s therefore important to review whether your clients are invested the most appropriate products and whether their needs can be better achieved through more flexible products.  

 

Our understanding is based on the current drafting of the Finance Bill 2023/24 as of 8 January 2024 which is not yet finalised and may be subject to change which is planned to take effect from 6 April 2024.