If the proposals get the go-ahead, the money that can be passed on to relatives after death will be severely limited.
Drawdown has become a popular option with savers who do not want to buy an annuity as soon as they retire. Instead you take an income direct from your pension fund — leaving the bulk of the money invested.
The principal attraction of drawdown for many people is that it gives you the chance to pass on some of your pension fund to your heirs. Under current rules, your drawdown fund can be passed on in full to your family when you die, less a 35% tax charge. There is no inheritance tax to pay if you name your spouse as beneficiary or write the drawdown contract in trust.
But the government is considering plans that would cap the lump sum that can be passed on after death. It would be limited to the amount originally invested in the plan minus any income that had been paid out.
David Marlow at The Drawdown Bureau, a specialist financial adviser, says: “Under the plans, the lump-sum payment will not account for any growth in the value of the fund — the insurance company will pocket this amount.
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“These proposals would rob people of the profits they may have made on their investments when they die.”
The Drawdown Bureau has calculated that if a 60-year-old man invests £1m in a drawdown plan and dies at the age of 74, his family will be worse off by £1,052,350. The full fund value at death would be £1,699,550, but under the proposals, the most that could be passed on would be £647,200.
The figure assumes the minimum income possible has been taken from the plan, based on current rates set by the Government Actuary’s Department, and the fund grows by 6% a year.
The government has provided a get-out clause. You will still be able to pass on the full fund value if it is used to continue in income drawdown or to purchase an annuity.
Marlow says: “It is unclear at this stage whether the proposals will apply to existing investors, but pension legislation is not usually applied retrospectively.
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“If you are thinking of going into drawdown you may want to speed up your plans so that you are not caught out by the new rules.”