Pension Death Benefits to Become More Taxing – What You Need to Know
If you’re relying on your pension to support not only your retirement but also to pass wealth on to your loved ones, recent government announcements may significantly change your estate planning.
From 6 April 2027, changes announced in the October 2024 Budget will tighten the rules around unused pension funds, especially those left in drawdown or lump sum pensions, and paid into trust or to family members after death.
Here’s what’s changing, and what you should do now to stay ahead.
📌 What’s Changing?
Under the current rules, many pension death benefits fall outside of the deceased’s estate for IHT purposes, particularly if the pension holder dies before age 75. These can be passed on to beneficiaries free of inheritance tax.
But from April 2027, the IHT exemption will be removed on certain unused pension funds when:
- Paid into trust, or
- Paid to someone other than a surviving spouse or civil partner.
This is most relevant for those with:
-
- Personal pensions,
- Private pensions, and
- Defined contribution schemes (excluding final salary pensions, which are unaffected).
💀 How Much More Tax Will Beneficiaries Pay?
The new rules will treat the death benefits as part of the deceased’s estate. An illustrative case:
Example:
- Jackie dies in 2027 at age 81.
- She owns her house (£900,000), plus other assets (£1.1 million), and an unused pension fund worth £800,000.
- She’s already used most of her inheritance tax allowances (known as NRBs).
- Her estate is now over £2.8 million.
What happens under the new rules:
- The £800,000 pension is now subject to IHT.
- With the average IHT rate at ~30.1743%, the tax bill just on the pension pot could be around £241,395 to £614,286, depending on whether it is paid directly to an individual or via scheme administrators.
So instead of passing the full £800,000 to her family, they could receive only about £190,000 – £550,000, after tax.
⚠️ Key Considerations
-
Impact on higher-value estates: If your estate is already over £2 million, you’re likely to lose your residence nil rate band (RNRB), increasing the IHT charge.
-
Defined Benefit Scheme Lump Sum Allowance (DBLSA): Remains capped at £1,073,100 — but you may have protections in place, depending on your pension structure.
-
Policy-based pensions (e.g. whole-of-life or investment-linked policies) may now fall inside the estate for tax purposes, if used to draw pension income.
💡 Planning Opportunities
The government has made it clear: tax-free pension wealth transfers are ending for many families. Here’s what you can do to protect your estate:
✅ Review your:
- Pension scheme nominations
- Trust arrangements
- Use of drawdown pensions
- Potential for using spousal exemptions
✅ Consider:
- Whether it’s worth using pension funds during your lifetime, especially if you’re over 75.
- Using other vehicles (e.g. ISAs, life insurance) to pass on wealth tax-efficiently.
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