Advisers can help clients slash their inheritance tax bill by encouraging them to put money into their pension once they hit their estate’s tax threshold.
Kusal Ariyawansa, chartered wealth manager at Appleton Gerrard Private Wealth Management, said pensions usually sit outside of an estate and in most cases will not count towards their inheritance tax (IHT) threshold when they die.
This means people can easily pass on their pension savings after they die by naming beneficiaries directly to their pension provider.
However, the exact amount they can pass on tax-free to their beneficiaries after they pass away depends on their age and whether they have started accessing their pension.
Ariyawansa said: "If you want to reduce your estate subject to IHT, it makes sense to spend what is taxable on death before accessing IHT-friendly wrappers, such as pensions.
"According to current rules, your pension is the most efficient way to pass wealth down the generations. This ‘pension freedom’ removed the previous animosity around pensions that forced many (not in drawdown) who annuitized to lose what should have been their heirs to insurance companies.
“The benefit of pension savings is immediate as no other investment guarantees an immediate gain of 25 per cent. The cumulative effect of this gain is compounding and significant over time. The fact that tax has to be paid upon access is relatively insignificant given the growth the tax relief enables.”
His comments follow research by PensionBee, which found that 51 per cent of Brits are using their pension to reduce their tax bill.
According to the data, which was published back in February, 57 per cent of working age savers, who are between 18 to 54-years-old, said they plan to, or already have moved money into their pension to reduce the size of their estate. This compares to just 27 per cent of those who are over 55.
Currently, IHT 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 per cent on the value of an estate above the nil-rate band.
Things to consider
However, Scott Gallacher, chartered financial planner and director at Rowley Turton, said there are many factors that need to be considered when using pensions as an IHT vehicle.
He said: “This planning takes several forms or stages. Firstly, there’s a pre-retirement funding stage, where advisers encourage their clients to make pension contributions. This is a key stage for wealthier clients with either an immediate IHT issue, or even a potential one further down the line.
"Opportunities for pension contributions will be lost if this is not looked at during your working life and, instead, is simply left to your retirement.
“Secondly, there’s the ‘at retirement’ stage when your overall financial situation should be considered when deciding how best to take your pensions as, for those with an IHT liability, it might be best to leave the pensions untouched. This way, the pension can pass to the next generation free of IHT, and possibly free of other taxes as well.
