Death in Service Benefits: an update on recent developments

Payment of a lump sum following the death of an employee is a highly valued benefit. In this Insight, we address recent developments, particularly potential changes to tax treatment and lessons from Pension Ombudsman cases.

Proposed Changes to Inheritance Tax

In the autumn budget, the Government announced proposed reforms to inheritance tax (IHT). Currently, lump sum death benefits generally do not form part of the estate of the deceased for IHT purposes. Under the proposals, they will form part of the estate and will potentially be subject to IHT. The proposal relates to benefits provided via a scheme which is registered with HMRC and the beneficiary is chosen at the discretion of trustees. As drafted, the proposals will impact the vast majority of schemes operated by employers for the provision of death in service lump sums. The consultation period on the proposed reforms closed on 22 January 2025. The Government’s target implementation date is April 2027.

If implemented, the proposals could have significant implications for how lump sum death benefits are provided. Notably, as the proposals apply only to schemes which are registered with HMRC (or ‘registered group life schemes’), the use of unregistered group life schemes may become increasingly attractive to maintain the tax efficiency of the benefit payments. ‘Unregistered group life schemes’ are sometimes referred to as ‘Excepted Group Life Schemes’ (EGLS). See below for a briefing on the basic features of each type of scheme.

Employers should look out for news of further developments, including HMRC’s response to the consultation, following it ending last week. We will issue a further update in due course. Depending on the outcome, employers may wish to reconsider how they provide lump sum death in service benefits. Any employer considering the use of an EGLS should take professional advice, including legal advice as a range of practical, financial and legal factors require consideration.

Insights from recent Pension Ombudsman cases

Several recent decisions by the Pensions Ombudsman relating to death in service benefits have emphasised things that we already know to be important, including:

• Understanding and applying the terms of your scheme;
• Following an appropriate due diligence and decision-making process to select beneficiaries;
• Avoiding delay in the processing of cases and making benefit payments.

The Pensions Ombudsman has jurisdiction over death in service benefits paid from pension schemes but not from group life insurance schemes. Nonetheless, cases decided by the Ombudsman provide helpful guidance for the administration of both types of scheme. Here are some relevant recent cases:

• Case CAS-57836-Q8V0
  The Ombudsman found maladministration by the trustees for failure to consider all relevant information before selecting the beneficiary of the death benefits. The trustees chose the beneficiary in preference to other individuals nominated by the deceased on a financial planning form. The trustees wrongly believed that they did not need to have regard to that form. The case underscores the need for thorough due diligence during the determination process.
  
  
• Case CAS-38697-T1F1
  A 15-month delay in following up on communications with a potential beneficiary was deemed to be maladministration, even though the two-year tax exemption deadline for the payment of benefits had not been breached. This ruling highlights the importance of prompt action to settle cases efficiently.
  
  
• Case CAS-56741-P0P6
  The Ombudsman found no maladministration following the delayed payment of death benefits which resulted in a tax charge. The delay occurred due to the late submission of relevant documents by the beneficiary and administrative errors by the scheme administrator. The Ombudsman acknowledged the frustration of the beneficiary but held them responsible for the delay in the submission of documents.

In all of these cases, procedural flaws were the cause of the initial errors. Although the Ombudsman found that the trustees’ failures amounted to maladministration, some complaints were not upheld because the trustees had offered adequate compensation to the aggrieved potential beneficiaries.

Avoiding Payment Challenges: The Importance of Process

The determinations by the Pensions Ombudsman above emphasise the necessity of having robust processes in place and ensuring proper remedies when errors occur.

Best Practice for Trustees

To minimise complaints or challenges by potential beneficiaries and consequent financial liabilities, trustees must:

1. Ask the right questions and consider all relevant factors during the decision-making process.
2. Disregard irrelevant factors.
3. Adhere strictly to the trust deed and rules.
4. Avoid making a payment decision that no reasonable trustee would make.
5. Maintain accurate records of all decisions and communications.
6. Provide clear reasons for decisions.

By implementing these practices, trustees can comply with their legal duties and ensure fair outcomes for all interested parties.

Remember: Trustees should never automatically pay the benefit in accordance with a nomination made by the deceased. There is a process to follow and the trustees may reach a different decision.

How We Can Help

We can help as much or as little as you like. Our services include:

• An outsourced case handling service – we can do all the work for you following a death in service
• Scheme establishment, amendment and termination
• Appointment and removal of trustees
• Delegation of trustee powers
• Bespoke training
• Advice
• Procedure audit – to review and potentially enhance your existing process
• Establishment and management of death benefit trusts

Also, for employers and trustees who prefer to handle cases themselves, we can provide a computer application with procedural guidance and case tracking functionality.

If you would like to discuss any of our services, the app or if you have any queries, please call Mark Poulston on 0151 242 9473 or email Mark at mark.poulston@weightmans.com