Despite the challenges of the pandemic, charitable giving has remained strong in the UK. In their October 2020 UK Giving and COVID-19 special report, the Charitable Aid Foundation found that the proportion of people who donated to charity was broadly in line with previous years, with donors making larger-than-usual donations. This resulted in an increase of nearly £800 million being donated to charity between January and June 2020 when compared to the same period in 2019.
In this article, you will learn about the reasons why someone may want to make charitable gifts from their pension savings, the options available for making a donation to charity in life and after death, and the pension rules governing such payments.
Why gift to charity from a pension?
Although simply giving cash is the most popular way for people to donate to charity, there are many ways to gift tax-efficiently, both during an individual’s lifetime and after death.
Payroll giving allows an individual to have donations to charity deducted from their gross pay. This provides an immediate saving to Income Tax, with the full amount going to the charity.
Alternatively, donations using Gift Aid allow the charity to claim tax relief on cash donations at a rate of 25p for every £1 given. This boost comes at no extra cost to the individual, although they must have paid the same amount or more in tax during that tax year. Those who pay tax above the basic rate can also claim the difference between the rate they pay and the basic rate on the donation.
In addition, all charitable gifts made during a person’s lifetime are exempt from Inheritance Tax. On death, if your client leaves at least 10% of their net estate to charity in their will, any Inheritance Tax that does fall due on the remainder of their estate is charged at a reduced rate of 36%, rather than the usual rate of 40%. The portion gifted to charity is also exempt, so this can be an effective way of reducing the value of an estate for Inheritance Tax purposes.
This is just a flavour of the options available. With so many avenues for donating to charity from non-pension funds already, and the not insignificant tax savings which can be achieved by doing so, you may ask why would someone want to make a donation from their hard-earned retirement pot?
For many, pension wealth makes up the majority of their household wealth. The Office for National Statistics reported that, for the period April 2016 to March 2018, 42% of total household wealth was made up of private pension savings. Pension money may therefore appeal to scheme members as a seemingly convenient source from which they can support their chosen charitable causes.
The lifetime allowance can also be a concern. The March 2021 budget locked in the lifetime allowance at £1,073,100 until 2026, so an increasing number of people will have pensions that exceed this limit. Pension savings in excess of the lifetime allowance are subject to a lifetime allowance charge, which is applied at a rate of either 25% if the funds are designated to provide an income, or 55% if they are used to pay a lump sum.
There are some options available to those who want to limit the amount of their pension which could fall subject to the lifetime allowance charge. Members can still apply for Fixed or Individual Protection 2016, but not everyone will meet the strict eligibility criteria. For those who have already accessed some of their pension, the withdrawal of drawdown funds can reduce the amount of excess in the scheme to be tested at age 75 under BCE5A. However, withdrawals are subject to Income Tax, and move the money into the member’s estate if it isn’t spent, which could lead to an Inheritance Tax liability.
Gifting assets directly to charity seems like it would be a straightforward solution. It would also be helpful for members who have pension investments which they are unable to sell or transfer, which can limit their ability to transfer their pension or take benefits. Unfortunately, unless there can be certainty that an investment is worthless, under current pensions legislation there is no scope to do this as an authorised payment. If an asset which is gifted away has any value, it would be treated as an unauthorised payment, with significant tax charges for the member.
Nevertheless, despite the limitations of pensions legislation, there are still a few options available to those who are keen to donate part of their pension to charity.
Payroll giving isn’t limited to just salary or wages. Members who are receiving a pension income via PAYE may also be able to make use of payroll giving to make donations to charity.
As with payments from salary or wages, the deduction is made before tax. The deduction is then paid to a Payroll Giving Agency, which pays the funds to the member’s chosen charity.
The member must be aged 55 or over to access their pension. The amount accessed will be subject to a lifetime allowance test, but this option can be effective if the goal is to reduce a potential lifetime allowance charge liability at age 75.
A further point to consider is that, if income is paid through flexi-access drawdown, the money purchase annual allowance will be triggered. This would limit the member’s future ability to build up their pension savings – although this is unlikely to be a concern for those with lifetime allowance issues.
To offer a payroll giving service, the scheme administrator must set up a contractual arrangement with a Payroll Giving Agency. Agencies may charge an administration fee, which could either be paid by the scheme or be deducted from the member’s donation. Setting up such an arrangement would require additional administration work on the part of the scheme administrator. These costs and complexities mean that, even if you conclude that payroll giving is a suitable option for your client, it may be challenging to find a pension provider that will facilitate it.
Gifting after death
Charities can be the recipients of an authorised lump sum death benefit payment from a pension scheme. If the member was aged 75 or over when they died, or if the member was under 75 but the payment was not designated until more than two years after the date the scheme was aware of (or should reasonably have been aware of) the member’s death, the payment will be taxable. As a charity is set up as either a trust or a company, it is a non-qualifying person, and tax will be charged at the special lump sum death benefit charge rate of 45%.
However, if certain conditions are met, the lump sum may be paid as a charity lump sum death benefit. A charity lump sum death benefit is paid tax free, so the special lump sum death benefit charge does not apply.
A charity lump sum death benefit may only be paid from money purchase arrangements. It can be paid following the death of a member of a money purchase arrangement where:
- there are no dependants of the member; and
- the member has nominated the charity as a beneficiary.
If the member leaves no dependants, but hasn’t nominated a charity, a lump sum cannot be paid as a charity lump sum death benefit. The lump sum also won’t qualify if the member has nominated a charity but there is a living dependant.
On the death of a beneficiary who is a dependant, nominee or successor under a money purchase arrangement, a charity lump sum death benefit can be paid where:
- there are no living dependants of the original member at the time of payment; and
- either it is paid to a charity nominated by the deceased member or, if the member did not nominate a charity, it is paid to a charity nominated by the deceased beneficiary.
Whether or not the deceased beneficiary had any dependants isn’t relevant.
Since 6 April 2016, it has been possible for charity lump sum death benefits to be paid from both uncrystallised funds and funds which have been designated to drawdown. Prior to this, a charity lump sum death benefit could only be paid from uncrystallised funds if the member was aged 75 or older when they died.
Importantly, if death occurs before age 75, payment of a charity lump sum death benefit isn’t a benefit crystallisation event. Any part of the deceased’s pension paid as a charity lump sum death benefit therefore won’t be tested against the lifetime allowance. This could be useful if the member expects to have funds which would cause their lifetime allowance to be exceeded.
The charity which receives the payment must be a charity registered with the Charity Commission of England and Wales (or the equivalents for Scotland and Northern Ireland). So long as the payment is used for charitable purposes, it will be tax free irrespective of the age of the member at the time of their death. If the charity doesn’t use the payment for charitable purposes, the payment will be an unauthorised payment.
It is important to strike a balance between lifetime gifting and ensuring that enough remains available for your clients to feel secure in their retirement. Whilst the options for using pension funds for charitable purposes are limited, they are worthy of consideration, particularly as pension savings are one of the largest assets retired individuals often have.
This article was previously published by FT Adviser
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