Whether you’re saving for retirement or some other key event, or whether you’re already enjoying retirement and using your investments to provide an income, one of the most common questions we are asked is:
‘What happens to the money when I die?’
It isn’t just your savings and pensions that have to be considered. All your assets, including your house, must be distributed upon death.
If you don’t plan carefully, one of the key beneficiaries could be HMRC, due to Inheritance Tax (IHT).
This not only includes your day to day living expenses, but also any future requirements that may require extra income.
This may involve matters out of your hands such as the peaks and troughs of the investment markets, or there could be a requirement in the future for some form of long-term care.
Whilst you may be fit and healthy at the moment, you don’t know what may happen and the last thing you want to be doing is giving all your money away in good faith and then requiring it back to pay for your care.
Naturally, it’s a fine balance between holding funds back to ensure that your own needs are catered for vs. finding that keeping too much back has generated an Inheritance Tax bill for your beneficiaries.
Because this balancing act can be quite complex, seeking financial advice is absolutely crucial.
We want to offer you an overview of things that need to be considered if you have the opportunity and desire to pass your wealth on to your beneficiaries.
As well as looking at how different assets are treated for the purposes of Inheritance Tax, we’ll consider some key factors to help people manage this situation better.
Before you consider how individual assets are treated on death, you need to think about three key factors that will help you put your personal situation in a better light. They are:
Understand what will happen, take advice, consider what you can do now.
IHT is described as a voluntary tax as careful planning can help you reduce or even avoid it. However, advice is essential.
This will happen to all of us at some stage, so the quicker you understand the implications and manage the situation, the better off everybody will be.
Broadly, everybody is saving to provide some element of future income. This may be used to fund a specific event, such as a wedding or school fees, or a much larger event like retirement. But in all instances,savings are accumulated to provide income.
Once you get to retirement, this requirement for income becomes more important. However, to put matters as simply as possible, there are broadly only two things that we can do with our assets.
Firstly, we can spend them. This is the simple one. We take money from our assets to provide us with income in retirement. This income may come from a pension plan, other investments, rental income from a house or other sources such as holiday lets. However you choose to take it, your assets provide you with money to spend. But if you don’t spend it all, then the other option is to give it away.
Whether you like it or not, you will give all your assets away. You may choose to do so in a managed way whilst you are alive, or you will do so upon your death. In our experience, most people don’t spend enough in retirement and this has been backed up by a survey from the Institute of Financial Planning (June 2018) which confirmed that most people aged between 70-90 only spent 31% of their wealth.
Many people are so concerned about their money running out that they spend too little and give too little away whilst they are alive. This therefore leaves too much in their estate on death.
The problem with this is that without some serious planning, you may find that the money you have saved so diligently gets distributed in a way that suits nobody.
So, the solution is to plan.
Whilst planning for your own death can feel a little uncomfortable, once you come to terms with the fact that you are going to give this money away, it is surely better to manage the situation and understand the implications. So, let’s go back to the three factors listed earlier and understand how planning can make a difference.
The first and most obvious question to be asked here is ‘have you made a Will?’ A recent survey by Punter Southall Aspire found that 30% of people haven’t written a Will, and of those that had, 20% hadn’t updated it in the last ten years.
It’s very easy to assume that ‘all my money will go to my spouse’ but without a Will, that may not be the case. More importantly, the provision of a Will means that funds can be distributed much more easily upon death.
Secondly, once you have made a Will, do your Executors know where it is? It doesn’t help if you have put it somewhere safe and secure if nobody can find it after you die. Therefore, ensure that at least one of your Executors knows where it is.
You also need to consider where you hold all your details concerning your assets. In days gone by, people would simply find Policy Documents and Building Society passbooks in drawers, but in these days of online banking and pdf produced documents, are you sure all of your assets can be found easily? Try and store all this information in one safe place, so that people aren’t scrabbling around looking for online documents.
Most importantly, consider who you wish to benefit upon your death. In most instances, it may be your spouse, but it may be more suitable or more tax efficient for it to be your children or grandchildren. It’s so important to take advice concerning these matters. For example, just incorrectly completing a nomination form for your pension could mean that your beneficiaries could miss out on tax-free income in the future.
A form of Inheritance Tax (or IHT) has been with us for some time. A tax on Estates was introduced in 1796 to help in the fight against Napoleon. This is not new. It's also quite penal, with a 40% tax charge levied on assets in excess of the IHT threshold, which at present stands at £325,000 per person. However, there is no IHT charged on transfers between spouses and there are other allowances on things such as a portion of your own home, certain gifts and charitable payments which all help to make IHT avoidable.
It should also be noted that certain assets are IHT-free. One of the key ones is Personal Pensions.
Therefore, if IHT is a concern to you, it may be better to draw your income from another asset such as cash accounts or ISAs and avoid using your pension for income (which we realise sounds a little contradictory).
Careful planning over a period of time can ensure that IHT is of no concern to you, but you must seek advice to ensure that the biggest beneficiary of your estate on death isn’t HMRC.
In the words of Benjamin Franklin,‘nothing can be said to be certain in the world, except death and taxes’. You’re going to give your assets away to somebody at some point. That being the case, isn’t it better to decide how you wish it to happen whilst you can?
We would encourage you to discuss this with your close family members. With careful planning, you’ll be able to see what sort of assets you’ll require for your income needs and therefore have an idea of how much, if any, can be given away. Surely it’s better to offer these gifts to your family at a time when it would help them the most?
If you are able to give money away, you could even consider missing out a generation and providing support to grandchildren for University fees or a deposit on a house. Providing gifts at weddings is IHT-free within certain limits and you’re allowed to give away £3,000 per annum free of IHT; also an unlimited amount can be given to charity free of IHT.
Surely it would provide you with much more satisfaction to see in person the good your gifts can make to your family. Once you’re retired, you only have two choices: to spend your money or to give it away. With careful planning and good quality advice, you can control both.
Personal Pension Plans, including SIPPS, and Income Drawdown plans are quite a unique proposition. A Personal Pension and Drawdown is written under a Trust and so is free from IHT. This makes it a very efficient investment.
Additionally,the rules concerning receiving death benefits from a Personal Pension or Drawdown changed radically in 2015.
If you die before age 75, the fund value can be paid to anybody, free of all income tax. This includes a dependent such as your spouse, or your children, grandchildren, nieces, nephews, other family members or even that nice lady who lives next door. After age 75, the fund can still be paid to anybody, but the amount of money received by the beneficiary is deemed as income and will be taxed accordingly.
To avoid a large income tax payment, this money can be paid into a Nominee Drawdown plan so that income can be drawn more efficiently. There are further rules involved which we won’t cover in detail here, but broadly, your Personal Pension or Drawdown plan can be paid to anybody upon your death.
What’s also key is that a Personal Pension and Drawdown is written under a Trust and so is free from Inheritance Tax (IHT). This makes it a very efficient investment. If IHT is an issue, it may be more sensible to draw income from assets that are liable to IHT and to leave the Personal Pension to grow, free of IHT.
Clearly, in these circumstances advice must be taken.
A new allowance (called Residence Nil Rate Band or RNRB) was introduced on a tapered basis in 2017 (and will increase inline with the Consumer Price Index for 2021).
The bands apply as follows:
If a person leaves a family home to a direct descendant, they will benefit from the RNRB as well as the ordinary nil rate band - which all sounds simple until you start asking further questions. You then find out that they must leave the property to a child or remoter descendant, or alternatively to an adopted child, a stepchild or foster child or any of their offspring. Then, there are implications for those people who have downsized or sold their property and also for those with properties in excess of £2M, who will see the allowance tapered.
As can be seen, it’s not quite as simple as it seems and, in all instances, advice is crucial.
A guaranteed income, normally purchased with Personal Pension money.
The death benefits are dependent on how the annuity is set up, but most importantly, there is no scope to pay any benefits down to further generations upon the death of the individual or the spouse.
Depending on when you reached or will reach your State Pension age, when you die, some of your State Pension entitlements may pass to your widow, widower or surviving civil partner. If you die, your spouse or civil partner may also be able to claim bereavement benefits.
A new State Pension system was introduced in April 2016 and the death benefits are typically now dependent on when the deceased drew their benefits. Death benefits also depends on
the National Insurance history of the widowed husband or wife. There will be transitional arrangements, so that in some circumstances, people who have made National Insurance contributions or have credits under the current system will still be able to inherit a state pension from a late spouse or partner.
Each case has to be treated on the circumstances of the individual. However, it should be noted that in terms of passing money down through generations, there is no scope for this. Once you and your spouse die, the your State Pension will
die with you.
Importantly, it should be noted that in terms of passing money down through generations, the State Pension has no scope for this. Once you and your spouse die, it will die with you. Note also that as there is no value on death, no element of the State Pension is considered for IHT purposes.
These are guaranteed benefits that are paid as income, normally provided by large companies or the State (such as to NHS staff or teachers).
The income normally has some element of inflation protection and upon death, a percentage of the income is normally paid to the spouse. The is most often 50% but can be as high as two thirds. However, if there is no (surviving) spouse, the benefits will cease upon the death of the member and there is no scope for passing any money down to future generations.
As there is no value on death, no element of a Defined Benefit Pension is considered for IHT purposes.
We recognise that this is difficult subject matter to discuss. In our experience, people want to discuss with us what the situation will be on death, but don’t want to talk about it to their loved ones.
If nothing else, we'd therefore advise you to do the following:
Manage what you can, ensure your Will is up to date and people know where it is. Ensure you keep full records of your assets where people can find them.
Understand the tax implications
As you will have seen, different assets are treated in different ways. Take care when distributing your assets and always get advice.
Consider your emotions
Discuss your situation with those who will be affected by this. Ensure they are aware of where everything is. If you are considering gifting your assets, do take advice. However, on the basis that you will be giving your assets away at some point, think about the difference you can make now, rather than when you are gone.
Remember, this page only deals with what happens to your assets on death and potential ways to manage your circumstances. For more specific information around gifting assets and the implications for IHT, we encourage you to read our Inheritance Tax Guide.
It may seem a little macabre to be planning your own death, but if you really wish future generations to fully benefit from your hard-earned savings and investments, the quicker you start planning, the better it will be for everybody.