Terminal Illness and Pensions Pitfalls

Death benefits have always been the most confusing aspect of pensions. Knowing and choosing the right option can make a huge financial difference; especially for the terminally ill as they have more options than most.

For instance, Hannah was 53 and had built up her pension over a 15-year period before leaving the company a few years ago. She’d earned 1/60th of her £60,000 salary each year. Hence her 15/60ths amounted to £15,000 pa of deferred pension. On receipt of medical evidence her pension scheme offered a ‘serious ill health lump sum’ (SIHLS) of £450,000 in exchange for Hannah giving up her own £15,000 pa entitlement (all 12 months’ worth).

Hannah’s husband Mark still received the same widower’s pension (£7,500 pa).  All Hannah had to do for her ‘extra’ £450,000 SIHLS was to fill in a form and send the medical evidence to the Scheme.

The SIHLS payment to Hannah’s own bank account was free of income tax and, because it was a SIHLS payment and not a pension ‘transfer’, it passed to Mark IHT free like any other inter-spousal transfer.

The main point is simply if you don’t ask, and ask early, you don’t get.

Timescales are always tight in these situations and working with a pensions expert can help winkle the required information from pension schemes.

Pension Transfers versus Serious Ill Health Lump Sums

Pension transfers are the ordinary way to capitalise future pension rights under a company pension scheme.

A pension ‘transfer’ is just moving one pension arrangement into another. A ‘Serious Ill Health Lump Sum’ (SIHLS) is a specific type of pension benefit (per Section 636 ITEPA 2003).

Although similar issues and options arise with personal pensions, the table below highlights the key differences between pension transfers and SIHLS payments from defined benefit (final salary) pension schemes. Please note it is just a high-level overview and nuances related to the Lifetime Allowance and its pending abolition are ignored.

Some Particular Planning Points

• Transfer values are much lower than they were a year ago whereas SIHLS payments are largely unchanged by high interest rates. Hence the SIHLS payment with the survivor’s pension on top can be more attractive just on value for money grounds.
• Once a transfer value is in a personal pension the fund on death can be easily paid into a discretionary trust where appropriate. As well as the control aspect this may be better than the SIHLS remaining in the survivor’s estate and incurring IHT in the future.
• It is generally unwise to transfer any pension if the individual is in very poor health and under the age of 55 (or age 57 from 6th April 2028). This is the minimum age for accessing pensions and, hence, the age before which the full transfer value is also the ‘loss to the estate’ for IHT purposes. The SIHLS route will often (but not always) be better in these cases.
• Personal pension providers usually offer a SIHLS option too. In which cases the whole fund can be paid to the member, income tax free.
• Pension scheme administrators have a tendency for bureaucracy. It is always best to approach them as early as possible.

Petitioning the Pensions Regulator

Pension scheme bureaucracy is often an inconvenience, but for the terminally ill it can be very costly indeed. If you have any such experience of your own, good or bad, I’d love to hear about it. In due course this could help petition The Pensions Regulator to do something about it.