Your pension is about to become part of your estate. Here’s what to do before April 2027. (Pensions Inheritance Tax 2027)
For years, a pension was one of the most tax-efficient things you could leave your family. In most cases it sat outside your estate, free of inheritance tax. That ends on 6 April 2027.
For deaths on or after that date, most unused pension funds and pension death benefits will be counted as part of your estate for inheritance tax. For many professionals, business owners and retirees who have built up large pension pots, this is the biggest change to their estate plan in a generation.
What is changing
Most unused pensions come into the estate. This applies whether or not the scheme trustees have discretion over who receives the benefits.
Some benefits stay outside. Death-in-service benefits from registered pension schemes are excluded, as are dependants’ scheme pensions from defined benefit arrangements.
Your executors carry the burden. Your personal representatives, not the pension provider, will be responsible for reporting and paying any inheritance tax due on your pensions.
Gifts to a spouse or civil partner remain exempt. The pain is usually felt on the second death, when everything passes to the children.
Why inheritance tax on pensions hits affluent families hardest
The tax-free allowances are not moving. The nil-rate band has been £325,000 since 2009 and is frozen until April 2031. The residence nil-rate band of £175,000, available when your home passes to your children or grandchildren, is frozen too.
There is also a trap that catches estates over £2 million. The residence nil-rate band is reduced by £1 for every £2 the estate exceeds £2 million. Adding a large pension to your estate can push you over that line and strip away allowances worth up to £140,000 for a married couple.
And if you die after age 75, your beneficiaries may also pay income tax on what they draw from your pension, on top of any inheritance tax.
An illustration
Take a widow with a home worth £1.2 million, investments of £600,000 and a pension of £700,000. Her late husband left everything to her, so she has his unused allowances too.
Before April 2027: estate of £1,800,000, allowances of £1,000,000, inheritance tax of £320,000.
From April 2027: estate of £2,500,000, allowances of £750,000, inheritance tax of £700,000.
The same family, the same assets, and £380,000 more tax. The pension adds £700,000 to the estate and also cuts her allowances by £250,000, because the estate is now over £2 million.
(Simplified illustration, assuming full transferable allowances and the home left to children. Not advice for any individual case.)
Seven steps to take before April 2027
Find out your exposure. List every pension you hold, with current values, and have your estate’s inheritance tax position calculated on the new rules.
Review your pension nominations. Check who you have named to receive benefits, and whether that still makes sense once tax applies.
Rethink which assets you spend first. Speak to your financial adviser about whether to draw on your pension sooner and keep other assets longer.
Use lifetime gifting. Regular gifts from surplus income can be immediately free of inheritance tax if structured and recorded properly. Larger gifts fall out of your estate after seven years.
Update your will and consider trusts. Your will should be written for your whole estate as it will be taxed, including your pensions. Trusts can protect assets for children and grandchildren.
Plan how the tax will be paid. Life cover written in trust can fund the bill without adding to the estate.
Put Lasting Powers of Attorney in place. If you lose capacity, your attorneys may need to carry on your gifting and planning.
The new rules start in less than six months. Planning done now, while you have choices, is far more effective than anything your executors can do afterwards.
Frequently asked questions
Will my pension be subject to inheritance tax from April 2027?
For deaths on or after 6 April 2027, most unused pension funds and pension death benefits will be included in your estate. Death-in-service benefits from registered schemes are excluded.
Who pays the inheritance tax on my pension?
Your personal representatives (executors) are responsible for reporting and paying it. They can ask the pension scheme to pay the tax directly to HMRC from the pension funds.
Is there inheritance tax if I leave my pension to my spouse?
Assets passing to a spouse or civil partner are normally exempt. The tax usually arises when the survivor dies and the estate passes to the next generation.
Can I still reduce inheritance tax on my pension?
Often, yes. Lifetime gifting, the order in which you draw on your assets, a well-drafted will, trusts and life cover in trust can all reduce or fund the bill. The right mix depends on your circumstances.
Sheikh Najam TEP is a STEP Registered Trust and Estate Practitioner and a regulated probate lawyer at Staple Inn Notaries in Holborn, London, advising families on wills, trusts, Lasting Powers of Attorney, inheritance tax and probate. To review your estate under the new rules, contact willsprobate@internationalnotary.co.uk or 020 3488 4195, or visit internationalnotary.co.uk.
This article is general information based on the law as announced at the date of publication and is not advice on your circumstances.
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