Among HMRC’s draft legislation for Finance Bill 2025-26, published on 21 July, is a significant change to how pension funds will be taxed. From 2027, they will be within the scope of inheritance tax (IHT).
This accompanies other major IHT changes announced at the same time, involving business property relief (BPR) and agricultural property relief (APR). Read more about the BPR and APR changes in our article here.
Below are key details of the IHT changes affecting pension funds, what you should be thinking about and how our IHT, trusts and estates specialists can help you to prepare.
What’s changing?
From 6 April 2027, the balance of most pension funds unused at the date of death (and death benefits payable by a pension scheme) will be brought into the pension member’s estate for IHT purposes. This will apply to deaths on or after 6 April 2027.
The main exemption will be death in service benefits paid by pensions.
Key details about the changes
- Specific exemptions which took drawdown pensions and registered/qualifying non-UK pensions outside the scope of UK IHT on death are being removed
- The spouse benefit is unchanged. If the fund is directed to a spouse (or a charity or registered club), the normal IHT exemptions apply (even if the benefits don’t get paid immediately to the spouse or charity)
- The IHT liability will not be reduced by APR or BPR – the fund value is within the scope of IHT irrespective of the assets held
- The legislation provides that the IHT is payable by the personal representatives or, if the beneficiaries so elect (and the amount is more than £4,000), the pension scheme administrators
- The legislation essentially provides that if pension income is used to fund the IHT, it is not also taxable as income
Our views on the changes
These changes were first announced in Autumn Budget 2024, so aren’t unexpected. They are obviously aimed at countering the use of pension schemes as IHT planning strategies, rather than the use of pension schemes to fund retirement.
For individuals who have been saving money in a pension with the expectation that this would be passed to their children free of IHT, this has been another blow on top of the other IHT changes.
The UK Government acknowledges the emotional repercussions of the changes, and how the new reporting requirements are ‘expected to have an impact on families going through bereavement where the estate has inheritable pension wealth and an IHT liability, in relation to additional administration of the estate.’ A strong support network, including trusted professional advisers, will help grieving households as they navigate these obligations.
A consultation on the draft legislation is running until 15 September 2025.
What should you be thinking about now?
Impact of double tax
If you have a significant pensions pot, you need to think carefully about the impact of the changes. From 6 April 2027, pension pots will largely be within the scope of IHT and for individuals who die after 75, the funds extracted post their death will also be subject to income tax. This double tax could result in very high effective rates of tax on the pension payments eventually passing to your beneficiaries.
Gifts out of surplus income
If you are likely to be affected, there may be an advantage in drawing down pension funds now and making gifts to your children, grandchildren etc. Properly structured, regular gifts made out of surplus income will be exempt from IHT (i.e. not within the scope of IHT even where individuals die within seven years).
IHT reliefs on assets in the pension fund
BPR and APR will not apply to assets held within a pension fund. Consider carefully how you hold assets that qualify for these IHT reliefs – where possible, it is likely to be better to hold these assets personally.
How BKL can help
Our specialists in tax, IHT, trusts and estates help entrepreneurs, families and trustees to understand UK tax complexities and structure their estates tax-efficiently. This covers all points in the business lifecycle, and all aspects of your business ownership and wealth.
We can explain how the IHT changes will impact your unique situation, guide you through the factors that may affect your tax liability, and advise you on preserving and passing on as much of your wealth as possible. This includes helping you and your spouse to write and update your wills.
BKL Wealth Management, our affiliated FCA regulated company, help our clients to think through their finances and improve their financial health. This includes investment structuring, pensions, cash management, and business and personal protection.
For a chat about how we can help you with IHT and estate planning, get in touch with Susie Mullin, Karen Spencer-Smith or Neil Lancaster, or send us an enquiry.
