Inheritance Tax on Pensions: What the New 2027 Rules Mean for Your Retirement Planning
Inheritance tax on pensions is set for a major overhaul from April 2027, following changes announced in the 2024 Autumn Budget.
For many families, pensions have traditionally been an efficient way to pass on wealth free from inheritance tax (IHT).
However, under the new rules, unused pension pots will be included in a person’s taxable estate.
HMRC has now released further details explaining how the system will work in practice, giving pension holders and families more clarity on what to expect.
How Inheritance Tax on Pensions Currently Works
At present, most unused defined contribution pensions sit outside of your estate for inheritance tax purposes. This means beneficiaries can often inherit pension savings without paying IHT.
In many cases:
- If you die before age 75, beneficiaries can usually access pension funds tax-free.
- If you die after age 75, beneficiaries may pay income tax on withdrawals, but no inheritance tax currently applies.
From April 2027, this position will change significantly.
Read about the hidden risk. Have you reviewed your Will and pension beneficiaries
What Will Change From April 2027?
Under the new legislation, unused pension pots will count towards the value of your estate when calculating inheritance tax.
Inheritance tax is currently charged at 40% on estates above the available nil-rate bands. While many estates will remain below the threshold, larger pension funds could now increase inheritance tax exposure for some families.
According to HMRC, the reforms are designed to ensure pensions are used primarily for retirement income rather than long-term wealth transfer.
“We continue to incentivise pension savings for their intended purpose of funding retirement instead of being openly used as a vehicle to transfer wealth.”
HMRC Clarifies How Tax Will Be Applied
One of the biggest concerns surrounding inheritance tax on pensions was the possibility of “double taxation” — where both inheritance tax and income tax apply to the same pension funds.
HMRC has confirmed that inheritance tax will be deducted first before beneficiaries pay any income tax on withdrawals. Beneficiaries will also receive a statutory deduction to reduce the income tax payable.
This means the overall tax burden should be lower than it would be if both taxes were applied to the full pension value.
Families and Executors May Face More Administration
The new rules are also expected to increase the administrative burden on families dealing with an estate.
From April 2027, executors and personal representatives will need to:
- Locate all pension arrangements
- Obtain valuations from pension providers
- Report pension values to HMRC before probate is granted
- Calculate and settle any inheritance tax due
HMRC is developing a new online system to help personal representatives calculate tax liabilities and notify pension providers of their share of the bill.
Tim Camfield, principal at pension consultancy Lane Clark & Peacock (LCP), warned that pension schemes may face time pressures ahead of implementation.
“Time is running out for HMRC to give schemes the detailed information they will need to implement a new system that starts in less than a year’s time.”
The Inheritance Tax Payment Deadline Remains
The deadline for paying inheritance tax will remain six months from the end of the month of death.
Executors will have the ability to ask pension providers to temporarily withhold up to 50% of pension benefits while inheritance tax calculations are completed.
Pension providers may also be able to pay tax directly to HMRC on behalf of beneficiaries.
Important Exemptions Still Apply
Despite the changes, several important exemptions remain in place.
Transfers to a surviving spouse or civil partner will continue to be fully exempt from inheritance tax.
HMRC has also confirmed that many “death in service” benefits paid by employers are expected to remain outside the scope of inheritance tax.
In addition, dependants’ scheme pensions — which provide a guaranteed income to eligible dependants — are generally excluded. However, strict rules apply regarding who qualifies as a dependant.
Flexible drawdown pensions and lump-sum inheritances are far more likely to fall within the taxable estate.
Overseas Pensions Could Also Be Included
The new inheritance tax rules will affect more than just UK pensions.
HMRC has confirmed that many overseas arrangements, including Qualifying Recognised Overseas Pension Schemes (QROPS), may also be included in a taxable estate if the pension holder is a UK resident.
Executors may need to obtain overseas valuations and convert them into sterling at the exchange rates on the date of death.
How to Prepare for the New Rules
Although the reforms do not take effect until April 2027, early planning could help reduce stress for loved ones and improve estate administration.
Former pensions minister Sir Steve Webb recommends:
- Keeping pension paperwork organised
- Creating a master document containing financial information and will details
- Considering a Lasting Power of Attorney
- Reviewing estate planning arrangements regularly
As inheritance tax on pensions becomes a reality, reviewing your retirement and estate planning strategy is becoming increasingly important.
Seeking professional financial advice can help ensure your pension arrangements remain aligned with your long-term objectives and family circumstances.
This blog provides general information and does not constitute personalised financial advice. Speak to a regulated financial adviser about your specific circumstances
