Death benefits, mental health and the price of control
In the wake of the 2015 pension freedoms, more clients than ever are looking to leave pension funds to their family when they die. Where a family member has mental health challenges, however, what safeguards (if any) can a client put in place?
Judith is 78 and has a sizeable defined contribution pension scheme for which she has nominated her adult son, Neil, as the sole death beneficiary. Judith would prefer that Neil choose to receive the funds as a nominee’s pension rather than a lump sum, although ultimately this would be Neil’s choice.
Unfortunately, Neil was diagnosed with a mental illness several years ago, and his condition varies from one week to the next.
Judith has concerns that even if Neil has mental capacity when he makes the decision to receive the death benefits, he might not use the funds prudently, he might not take appropriate advice and he may subsequently lose capacity in the future, all of which could potentially lead to poor outcomes for him.
Judith is looking at whether there are any controls or safeguards that could be put in place either now or in future.
Power of attorney
One avenue to explore is a power of attorney, which would allow someone else to act on Neil’s behalf.
Firstly, however, Neil must have mental capacity in order to grant the power of attorney in the first place. This might be a challenge given his illness, and Neil would have to agree to grant it. Furthermore, it doesn’t prevent Neil from choosing the lump sum against Judith’s wishes.
Even if Neil did grant the power of attorney and chose the nominee’s pension option, there are practical challenges. While the funds would remain in a tax wrapper, the provider could conceivably find themselves in a situation where they have received conflicting instructions from Neil and from the attorney.
If Neil’s instruction held sway, there is a risk he might not use the funds appropriately.
If Neil lost capacity completely, the Court of Protection could grant a deputy order in favour of a friend, family member or solicitor. A deputy is effectively a court-appointed attorney, and they could make decisions on Neil’s behalf.
As Neil would no longer have mental capacity at all, it’s very unlikely that there would be any conflicting instruction situations. The deputy would also take appropriate advice on how to deal with the funds, which is likely to mean a better outcome for Neil.
The deputy process, however, is really a final recourse, and not something you can arrange in advance. It can also be fairly costly and onerous, certainly for those outside of legal and financial professions.
Distribution to a trust
Another option is for Judith to nominate a trust to receive the death benefits. The trust funds could then be used for Neil’s benefit as and when required. The scheme administrator is not bound by Judith’s nomination, but all things being equal is likely to follow it.
The funds would no longer be in a tax wrapper, and they would also be subject to a 45% tax charge up front (not to mention periodic charges). However, Neil would get a tax credit on distributions from the trust, so the charge is not as punitive as it might seem at first glance.
The key benefit, however, is control. And it would give Judith a lot more comfort that the funds are being used appropriately and for Neil’s benefit.