are pension withdrawals classed as "income"

DRS1

https://forums.moneysavingexpert.com/discussion/comment/82161285#Comment_82161285

Thank you for the kind words. I was expecting someone to explain to me in words of one syllable why I have got it wrong.

Thinking about it, it does seem that passing the money to a beneficiary drawdown pension and then eg taking all the money out of that pension in a large lump might be regarded as some sort of tax avoidance scheme. If you would have paid tax on it if you had taken it as a lump sum from the original pension then why should inserting a different pension in between make the payment tax free? But maybe it would only be an aggressive plan like @Quidditch's which would get HMRC taking a look.

Dead_keen

I want to build this up in layers as it can become a bit unwieldy.

Scenario: a married couple have a pension pot of £3mio. If one of the partner passes away before age 75, I think this £3mio transfers wholly and IHT-free to the surviving partner. At this point the surviving partner can withdraw as much as they want and without any income tax?

Assuming yes, could they prepare a written agreement to agree a gifting strategy which is along these lines:

they will withdraw £1mio each year and spread this equally over the 12 months.
Since the living expenses of the surviving partner are only around £2k each month, can they set-up a direct debit for gifting the rest. Is this a clear case of gifting from surplus income (immediately outside estate).
Clearly, they could continue this - subject to their lifetime - and aggressively gift until they are below the IHT limit.

Can I get your thoughts on this please.

The nub of this question is whether a capital amount is being drawn from the SIPP in instalments or "income" is being drawn. At the end of the day, no one knows the answer to this with any certainty as it will depend on the facts available to the widow's PRs, the attitude of HMRC, and the way it is presented in court (if HMRC take the point). So contemporaneous evidence is important.

Let's tweak the facts a bit. Let's say the widow plans to take the full pot in three equal instalments (so no monthly amount). I'd say that there is a good chance that none of those instalments was income for IHT purposes. They are just taking a capital sum in three instalments.

Does taking the full pot out over 36 months change that? I think it would help but it won't be a slam dunk at the FTT (i.e. good chance that the widow's PR would lose at the FTT if HMRC were to take the point). For example, it is quite hard to answer the question of why £83,333 per month was taken out without saying we took the lump sum and wanted to take it out as quickly as possible but not make it look like we were taking capital out for IHT purposes). I'm not saying the widow's estate would not win, but I'm not confident that it would. The issue for me is that the starting objective is to take the whole pot out over a short period.

Let's tweak the facts a bit more, let's say that husband and wife have a broad strategy (and write it down in their "what happens when I die file" so that their PR's have it) that says that they intend to be prudent while both are alive in case of long-term care but it's clear that if one of them has died then they won't need as big a safety blanket as they currently have. They've worked hard to save up for their pension but haven't drawn it as a pension yet. Following death of one, it makes sense to take a much bigger pension because they need a smaller safety blanket. So the broad plan is to draw a pension of £50,000 to £80,000 per month as that is likely to mean that that the survivor will be able to have plenty to spend, save or give away in the earlier years while health is better. Giving it away is also attractive because it means that we get to see the kids and grand-kids enjoy and benefit from it, and spending it helps reduce IHT! After the death age under 75, the widow decides to do that and takes a pension of £80,000 per year. She then chooses to set up direct debits totalling whatever she want to give away each month based on what they feel comfortable with (e.g. £70,000 per month if she spends £2,000 per month, wastes £8,000 per month on cruises and has lots of other safety blankets around).

To me that feels much easier to demonstrate that it is all about taking a monthly pension (so income) than choosing to take a capital sum out over as short a period as possible to make it not look like capital.

At least three things could go wrong: (i) the first death is too late, (ii) the window loses capacity and so the gifts have to stop, and (iii) IHT law changes.

Thinking about it, it does seem that passing the money to a beneficiary drawdown pension and then eg taking all the money out of that pension in a large lump might be regarded as some sort of tax avoidance scheme

I am completely relaxed about this. There is no relevant anti-avoidance rules here and the GAAR would not apply. The issue is whether it is income vs capital paid in instalments. And that is something that I think, based on the facts in the post I've quoted, is something that HMRC might well win on. It "feeling" dodgy is something that might encourage an HMRC officer to think about it, talk to their colleagues about and ask the widow's PRs for evidence about. So if it was me, I'd be thinking about making sure that the evidenced intention supports it being a choice to take a monthly pension rather than capital by instalments in as quick as time as possible in a way that makes it look like income.

phlebas192

https://forums.moneysavingexpert.com/discussion/comment/82161469#Comment_82161469

The nub of this question is whether a capital amount is being drawn from the SIPP in instalments or "income" is being drawn.

I have a different take on the key point, namely that it is the "normal expenditure" aspect that probably applies here. If you are taking 1/3rd of a pension pot out and gifting it then it isn't going to be normal expenditure since all parties know that it is only going to happen for three years. There at least needs to be the expectation that the gifting will continue for an indefinite amount of time in order to become normal expenditure.

Dead_keen

There at least needs to be the expectation that the gifting will continue for an indefinite amount of time in order to become normal expenditure.

I'm not sure I agree with you. If my policy is to gift my surplus income every year, and my income is variable, is that good or bad from your perspective?

DRS1

https://forums.moneysavingexpert.com/discussion/comment/82161485#Comment_82161485

Obviously the figures involved colour our impression of this. But it should be pointed out that there are examples on here of people emptying their SIPP over a relatively short period - eg before SP kicks in in order to make the most use of their personal allowance. Yes I know opposite ends of the scale. But you could conjure up some justification - say the widow is fast approaching 75 herself and wants to avoid the money still being in the pension when she dies after age 75 (which would make the pension taxable (income tax as well as IHT) in the hands of her beneficiaries).

And I believe you can qualify for the normal expenditure exemption by documenting your intention even if you only make a single gift. Of course that may involve @Quidditch killing off the widow in short order as well as doing away with the husband before he gets to 75.

phlebas192

https://forums.moneysavingexpert.com/discussion/comment/82161496#Comment_82161496

I would consider this "good". You are making an open ended committent to make regular payments (albeit the size of each payment is not known in advance) and hence the gifting is part of your normal expenditure.

phlebas192

https://forums.moneysavingexpert.com/discussion/comment/82161526#Comment_82161526

The clear intention of the legislation is to cover cases where someone makes transfers as part of their normal expenditure. Your example of a widow emptying her SIPP before 75 sounds like "tax avoidance" rather than "normal expenditure" to me.

Yes, a single payment can suffice. It is the intention to make regular payments that is the necessary factor. So if you set up a standing order and happen to die just after the first payment then there was a clear intention to make regular payments.

DRS1

https://forums.moneysavingexpert.com/discussion/comment/82161611#Comment_82161611

Yes. But to quote Royal London's note on the topic "Normal does not necessarily mean regular or yearly, though regular giving is more likely to meet the normality test. HMRC’s manual suggests that averaging the yearly amount of the donor’s gifts of a particular type will help when considering this point."

If you decide that you are going to give away all your excess income (and document that) then if your excess income is £5 or £5 million in a year should not matter. That it is low in one year and high in another should not matter. That you did not set up a standing order (because you are not giving a consistent amount) should not matter. Going back to the Royal London note (which may not back me up completely on this point) "Gifts should be comparable in size, though small variations in amounts are allowable. Sometimes gifts may relate to costs that fluctuate (for example, school fees) or where gifts are made from an income source which varies in size (for example, company dividends)."

Sure having one year of excessively high income may get you looked at. But where do you draw the line? Is 20 years OK? Or 10 years? or 5 years? or 3 years?

How do you decide what is a reasonable or normal amount to draw as income from a pension? You are saying if you take it all in 3 years that is not "normal" so presumably you would want the pension to last for the rest of that person's life but that is not necessarily a normal course for someone to follow (and what if the rest of your life is 3 years).

It is a fascinating if somewhat academic debate - the chances of this actually happening must be remote. Even if the people on here worried about IHT on their pensions (or their spouses) thought about it, how many of them are going to have £3million SIPPs and die before age 75? And how many of their spouses are going to want to pass the whole lot on to their children in very short order using the gifts out of surplus income exemption?

phlebas192

https://forums.moneysavingexpert.com/discussion/comment/82161668#Comment_82161668

As you rightly say, this is largely academic. Most of us will be in a scenario like my mother who has made monthly payments to her grandchildren for the past 5 years and - possible care home fees notwithstanding - expects to do so until her death. Very easy to demonstrate that these are part of her normal expenditure.

I would strongly recommend anyone attempting anything more aggressive to have a good read of HMRC's internal manual on this, https://www.gov.uk/hmrc-internal-manuals/inheritance-tax-manual/ihtm14241

On several points it tells their inspectors to refer to Technical for advice, which indicates how these aren't clear black & white issues.

As a final word from me, I would also remind anyone who thinks that they are confident that a point works in their favour that by the time it matters they will be dead and gone. It is their executors who will need to make the claims. So make sure they know what your intentions are and that they are happy to potentially fight HMRC. No point taking a risk (especially if it involves any immediate costs) if your executors just want a quiet life and err on the side of caution!

silvercar

If you give a large gift out of a surprisingly high income one year, then either it’s accepted as part of regular gifting of variable size or it’s a PET; your estate’s tax position can’t be worse off than if you hadn’t gifted the money. If you live 7 years it’s irrelevant as a PET would be outside the estate, if you don’t then it’s either accepted as a regular ift out of income or it falls into the estate and the tax is paid meaning that tax will be paid on it. It can’t be a worse situation than not gifting it.