A Tale of Two Brothers – a Death in Service Conundrum

4th July 2016

Adam is the marketing director of a successful software company, NuForts Ltd, employing 25 staff.

He is a member of his employer’s pension scheme and the value of his fund currently stands at £800,000. As part of its remuneration package to staff the company also provides death in service cover of 6x salary. Adam currently receives a salary of £125,000 and has nominated his wife Jane to receive his death benefits.

In the event of Adam’s death Jane will receive:

  • Value of Adam’s pension fund: £800,000
  • Death in service lump sum; £750,000

However Jane will have to pay a tax liability of £302,500 on the death in service lump, which will reduce her net benefit to £1,247,500.

Adams’s brother Nathan is the financial director of a successful building maintenance company, NuWells, which is a similar size to NuForts.

He too is a member of his employer’s pension scheme and the value of his fund also stands at £800,000.  In fact Nathan’s remuneration package is exactly the same as Adam’s; he has nominated his wife Kate to receive his death benefits.

In the event of Nathan’s death Kate will receive:

  • Value of Nathan’s pension fund: £800,000
  • Death in service lump sum: £750,000

However Kate will not have to pay any tax on her death in service lump sum, which means her net benefit will be the full £1,550,000.

So why the difference?

Well it is to do with the nature of the death in service schemes.

Adam is a member of NuForts Registered Group Life Scheme while the scheme Nathan set up at NuWells is an Excepted Group Life Scheme.  They might sound like they are the same thing, but the tax treatment is very, very different.

The NuForts Registered Group Life Scheme is governed by Pensions legislation, which means that when benefits become payable, they are assessed against the Lifetime Allowance together with the employee’s pension funds. A tax charge of up to 55% will apply if the limit (which reduced to £1M in April 2016) is breached, significantly depleting the funds available to Jane.

The NuWells Excepted Group Life Scheme is not governed by Pensions legislation, which means that the Lifetime Allowance does not apply and therefore no tax charge will be levied.  As a result Kate will receive significantly more (and the tax man will receive nothing).

Both options are attractive to employers as contributions should be deductible against corporation tax. They are also tax efficient for employees as the employer’s contributions aren’t treated as benefits in kind, nor are they assessable for employer or employee National Insurance contributions.

If you have not already done so, you should check which type of scheme your employer is using to provide your death in service lump sum. The next step would be to assess whether the net benefit is sufficient to ensure continuing financial stability for your financial dependents.

Contact us if you have any questions.