The Government has now confirmed major changes to the way pensions will be treated for Inheritance Tax (IHT) purposes from 6 April 2027.
Currently, unused pension funds can often be passed to beneficiaries outside of a person’s estate and free from IHT, making pensions an attractive estate planning vehicle. However, under the new legislation, most unused pension funds and pension death benefits will instead be included within the value of a person’s estate on death.
This means pension wealth could become subject to Inheritance Tax at up to 40%, depending on the size of the estate, available allowances, and who the beneficiaries are. Pensions being added to estate, in certain circumstances could reduce, or even fully erode, a valuable allowance called the ‘residence nil rate band’.
The changes will apply to most defined contribution pensions, drawdown plans and certain lump sum death benefits. In some cases, defined benefit scheme death benefits may also be affected. The rules will apply to deaths occurring on or after 6 April 2027.
There are still some important exemptions available, including:
- Transfers to a surviving spouse or civil partner, which will generally remain exempt from IHT.
- Certain death-in-service benefits provided through employment schemes.
- Dependants’ pensions, such as ongoing spouse or dependant income payments from pension schemes
For many families, these changes could significantly alter existing estate planning strategies. Over recent years, pensions have increasingly been used as a tax-efficient way of passing wealth to future generations, with other assets often being spent first in retirement. The new legislation may mean it becomes more important to review:
- How retirement income is being taken
- Which assets are likely to be used during lifetime
- Beneficiary nominations
- And broader Inheritance Tax planning arrangements
While the changes are not due to take effect until April 2027, early planning will be important, particularly for individuals with larger pension funds or estates that may already exceed available IHT allowances.
If you would like to discuss how these changes may affect your own circumstances or would like to review your Inheritance Tax planning in more detail, please get in touch and we would be happy to arrange a conversation.