Pensioners wishing to avoid buying an annuity were given false hope when, in April last year, the Government introduced what seemed like the ideal solution – the alternatively secured pension (Asp).

Instead of buying an annuity at 75, a pensioner with an Asp could leave the money invested and draw income of between 55 per cent and 90 per cent of the comparable annuity income. However, fearing that wealthy savers would use Asps to pass on tax-advantaged savings to dependants, the Government shifted the goalposts in December, introducing a punitive tax charge on any residual funds left over when the pensioner dies.

While the tax charge on excessive funds over and above the lifetime allowance is 55 per cent, the Government has been much harsher on residual funds left in Asps, levying an unauthorised payment charge of 40 per cent, an unauthorised payment surcharge of 15 per cent, a scheme sanction charge of 15 per cent and inheritance tax (IHT) at 40 per cent where applicable, adding up to a potential tax charge of 82 per cent.

The introduction of this tax charge has produced a rather arbitrary situation whereby a pensioner who dies before the age of 75 can leave any untouched pension funds to dependants, but one who dies after that age will lose the bulk of the fund to the taxman. Residual pension funds left by pensioners who die before 75 can be passed to beneficiaries free of IHT because pension trusts are separate from the pensioner’s estate. After 75, this is no longer the case. Pension funds must either be used to purchase an annuity or to take an Asp.

While the tax charge appeared to kill off Asps, Paul Wilcox, of the Way Group, the wealth management company, argues that they can still present a viable option for pensioners wishing to avoid annuity purchase, so long as they plan their affairs carefully. While there is no way to mitigate completely against the 82 per cent charge, there are ways to make sure that the bulk of any surplus funds go to the pensioner’s beneficiaries rather than the taxman. The first thing to do is to take the maximum tax-free lump sum, which is 25 per cent of the total fund, early in the retirement process. This money can then be gifted into a flexible trust so that it will fall outside the IHT net, provided that the pensioner survives for seven years after making the gift.

Under Asp rules, the minimum income that can be drawn from a fund is 55 per cent of a comparable annuity, as calculated by the Government Actuaries Department (GAD), while the maximum is 90 per cent. In cases where a pensioner has surplus funds, as well as other sources of income, he or she may be tempted to take a relatively low income from the pension. But this would be a mistake. By taking the maximum income, the pensioner can then put the money into a “gifts from income” flexible trust, which means that the money is immediately exempt from IHT. The money gifted into trust can then grow outside the taxable estate of the pensioner, although it remains available should he or she need the funds during his or her lifetime.

An alternative strategy would be to use the income to make pension contributions on behalf of a child or grandchild. If the child is a basic-rate taxpayer, the contributions paid will enjoy basic-rate income tax relief.

Asps may also be appropriate for someone with a much younger spouse. Jenny Armstrong, of RSM Bentley Jennison Financial Management, says: “If the pension fund can be passed to a younger spouse, an Asp still has merit as this offers the potential to extend the useful life of the fund.”