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How Your Pension Works as Part of an Estate Plan

Website-photo-state-incentive-pagePassing a pension to a spouse or child has the added benefit of being tax free.

A recent article from Morningstar, “Why Pensions are Vital to Estate Planning,” explains that pensions are attractive alternatives to other types of property, because they can be inherited without the burden of taxes.

Company pensions—whether defined benefit or defined contribution—have different rules as to who can inherit in the event of a member’s death, as well as how much can be passed on to the next generation. A common misconception is that all inherited pensions, whether cash that’s been drawn down, an unused sum, or an annuity, are all tax free.

If a pension owner dies before they reach 75, this is generally the case.  However, if you have questions about pensions and estate planning, talk to an experienced estate planning attorney.

It’s a common misconception that a spouse is the only person who can inherit their partner’s pension. Children can also be named as beneficiaries for pensions. This is frequently used as part of estate planning.

Make sure that your beneficiary form is up-to-date. This is because pension trustees without a beneficiary form or up-to-date information often use wills to guide them when a member dies. That’s why it’s critical to update your will when you experience a life-changing event, like divorce, bereavement, or the birth of a child.

Without a completed beneficiary form or a surviving spouse, trustees will use their discretion when determining whether to pay out to children. They often look for “financial dependency,” like a joint bank account.

Many people have opted to take a 25% lump sum from their pot. However, experts caution that if any of this withdrawn money is left over when you die, it may be taxed.

Money left within the pension isn’t subject to tax if you die before 75. If you die when older than 75, the person who inherits it must pay tax at their rate.

Discuss your pension with your estate planning attorney to make sure that it aligns with the rest of your estate plan.

Reference: Morningstar (March 9, 2018) “Why Pensions are Vital to Estate Planning”