From 6 April 2027, significant changes to inheritance tax (IHT) will affect how pensions are treated when someone dies. For many people, pensions have long been one of the most tax-efficient ways to pass wealth to the next generation. The government’s planned reforms could change that position and may increase the inheritance tax payable on some estates.
The Current Position
Under the current rules, most unused pension funds can usually be passed to beneficiaries outside of a person’s estate for inheritance tax purposes. This means the value of the pension is normally not included when calculating the estate for IHT.
Because of this favourable treatment, pensions have often been used as part of estate planning strategies. Many individuals choose to spend other assets first in retirement while leaving pension funds untouched so they can be passed on to family members in a tax-efficient way.
What Is Changing in April 2027?
The government plans to bring most unused pension funds and certain pension death benefits within the scope of inheritance tax from 6 April 2027. This means the value of unused pension savings could be included when calculating the total value of a person’s estate.
If the estate exceeds the available inheritance tax allowances, tax could be payable on the pension value alongside other assets. Inheritance tax is currently charged at 40% on the portion of an estate above the available thresholds, so this change could increase the tax liability for some families.
Another important practical change is how the tax will be administered. Responsibility for reporting and paying the inheritance tax due on these pension funds is expected to fall to the personal representatives (executors) of the estate, working alongside pension scheme administrators.
Are There Any Exceptions?
Some exemptions will continue to apply. Transfers to a spouse or civil partner will remain free from inheritance tax, and gifts to charities will also remain exempt. In addition, death-in-service benefits from registered pension schemes are expected to remain outside the inheritance tax calculation.
However, for many other situations the new rules will mean unused pension funds are treated more like other assets within an estate.
Why Is the Government Making This Change?
The government has stated that the purpose of the reform is to better align pensions with other forms of inherited wealth. Over time, pensions have increasingly been used as a tool for passing on assets rather than purely for retirement income.
By including unused pension funds within inheritance tax calculations, the government aims to encourage people to use their pension savings primarily to fund their retirement.
What Could This Mean for You?
For individuals with significant pensions, these changes could have a noticeable impact on estate planning. Including pensions in the value of an estate may push more estates above the inheritance tax thresholds, which could increase the amount ultimately paid in tax.
This does not mean pensions lose their value as part of long-term planning, but it does mean that some strategies that were previously very effective may need to be reconsidered.
Planning Ahead
Although the new rules will not apply until April 2027, it is sensible to review your financial plans well in advance. Reviewing your pension beneficiary nominations, ensuring your Will remains up to date, and considering how your retirement income will be drawn could all become increasingly important.
The right approach will depend on your personal circumstances, including the size of your pension savings and the value of your wider estate.
How We Can Help
The inclusion of pensions represents a significant shift in estate planning. For many people, pensions have been viewed as one of the most efficient assets to pass on to the next generation, but this advantage may be reduced once the new rules take effect.
With the changes still some time away, there is an opportunity to review your plans and ensure they remain aligned with your long-term goals. If you would like to discuss how these reforms could affect your situation, please get in touch to speak with our Wills Specialist.
