RP case studies: Using trusts to retain death benefit control

In the latest RP case study, Jessica List explores how clients can retain greater control over death benefits by utilising trusts instead of pension arrangements...

The ability for pension benefits to be passed down through multiple generations is one of the big draws of the current death benefits rules in defined contribution pensions. However, what happens if a member wants to maintain greater control over the beneficiaries than the pension rules allow?  

The situation 

Gabby is 60-years-old. She is single with two adult children and three siblings. Gabby’s health has been deteriorating for a number of years and a recent bout of illness has prompted her to review the death benefits arrangements for her pension. She believes that each of the beneficiaries she is considering would choose to use beneficiaries’ drawdown. 

Gabby’s older brother Louis, 74, has been struggling financially since the death of his partner and Gabby would like him to inherit her pension first. However, if there are remaining funds after Louis’s death, Gabby would like them to go to her children rather than Louis’s daughter, with whom Gabby has an uneasy relationship. Her other two siblings have no need of the funds.  

Gabby’s oldest child, Sara, has always been very sensible with money. She makes a reasonable living and is not struggling financially but Gabby would still like her to benefit from any remaining funds. However, Gabby is concerned about her second child, Henry, who has a history of being irresponsible with his spending. She would like money to be available to Henry but if possible would like to ensure that he doesn’t waste it.  

Gabby writes an expression of wishes to send to her self-invested personal pension (SIPP) administrator. She tells the administrator that she would like the funds paid to her brother first, and for any residual funds on his death to be split equally between her two children. In a side letter to the administrator, she explains her fears about Henry wasting the money and asks if there would be any way to restrict his payments, such as requiring someone else’s authorisation. 

Archie, a representative from Gabby’s SIPP provider, receives her letter and decides to call her to discuss her request further.  

Firstly, Archie confirms that unless a beneficiary is a minor or has a power of attorney in place, the administrator would take their instructions in relation to income payments. The administrator would not be able to place the kind of restriction on payments which Gabby is asking about.  

Archie explains that the second problem, however, is that Gabby isn’t able to make an expression of wishes in respect of any remaining funds after her brother’s death. Once the funds have been placed into beneficiary’s drawdown in Louis’s name, it is his expression of wishes which will be taken into account on his death. There’s no way for Gabby to prevent Louis from leaving the funds to his daughter instead of her children. Gabby also realises that even if there was a way, there would still be nothing to prevent Louis from simply exhausting the fund and giving the money to his daughter before his death. 

Other options

Gabby asks Archie if there is any way for her to maintain greater control over how the money is distributed.

Archie asks whether Gabby has explored the option of using a trust. Archie emphasises that he cannot say whether it would be appropriate for Gabby’s requirements and she would need to seek professional advice first, but that it is possible to name a trust as the beneficiary of her pension instead of her brother and children.

On her death, assuming the administrator decided to follow her expression of wishes, a lump sum death benefit would be paid to the trust. The trustees would then control payments to the underlying beneficiaries and the fund could no longer be affected by pension rules.  

The results  

Gabby speaks to a financial adviser and a solicitor about naming a trust as the beneficiary for her pension. Together they draw up a trust which has Louis, Sara and Henry as beneficiaries and appoints Gabby’s other two siblings as the trustees.

Gabby documents her wishes that the fund should provide for Louis’s needs during his lifetime and her children thereafter, and explains her concerns about Henry’s spending in greater detail. She is confident that her siblings would only make payments to him in line with her wishes. Gabby then completes a new expression of wishes naming the trust as her beneficiary.  

Her adviser explains that there is another potential benefit of using a trust because of Gabby and Louis’s ages and Gabby’s poor health. Gabby is unlikely to live to age 75, in which case the benefits from her plan should be paid tax free.

Louis, however, is likely to live past age 75. If this was the case and the benefits went into beneficiaries’ drawdown, Louis would be able to receive tax free income but Gabby’s children would end up being taxed on the funds they received.

Removing the funds from a pension environment into a trust after Gabby’s death will mean that the tax treatment will not be affected by later deaths. 

Jessica List is pension technical manager at Curtis Banks Group