The UK Government’s planned changes to the taxation of pensions are prompting fresh warnings from financial advisers, who say many savers have yet to grasp the implications for their estates. From April 2027, unused pension funds that were previously outside the scope of Inheritance Tax (IHT) will, in many cases, become part of a deceased person’s taxable estate.
According to reporting by the Daily Express, the reforms will affect defined contribution pension funds and certain death benefits, bringing them within IHT calculations for the first time. Advisers say the changes could create additional administrative burdens for executors, particularly because inheritance tax liabilities generally need to be settled within six months of death.
Pension Assets to Be Included in Inheritance Tax Calculations
The reforms represent a major shift in the way pensions are treated for inheritance purposes. Under the new rules, which are due to take effect on 6 April 2027, unused defined contribution pension pots and some associated death benefits will be counted as part of a person’s estate.
According to the Daily Express, estates exceeding the standard £325,000 nil-rate band, or up to £500,000 where the residence nil-rate band applies, may face inheritance tax at 40% on the value above those thresholds.
Financial planners have also highlighted the possibility of a second layer of taxation. Where beneficiaries later withdraw funds from inherited pensions, income tax may also apply depending on their circumstances. The newspaper reported that higher-rate taxpayers could face income tax rates of up to 45% on withdrawals.
Des Cooney, a retirement planning specialist at Axis Financial Consultants, described the changes as “a genuinely significant shift that many people haven’t had time to plan around”. He added that the interaction between inheritance tax and income tax could have substantial consequences for families inheriting pension wealth.
The reforms were first signalled in the Autumn Budget and mark a departure from the long-standing perception of pensions as an effective means of passing wealth to future generations outside the inheritance tax system.
Executors Face Pressure From Six-Month Payment Deadline
Alongside the tax changes themselves, advisers are drawing attention to the practical difficulties that executors may encounter when administering estates.
According to Mr Cooney, the six-month deadline for paying inheritance tax is particularly challenging because families are often dealing simultaneously with probate and bereavement. He warned that executors may have limited time to establish pension values, calculate liabilities and arrange payments before interest charges begin to accrue.
The process can be especially complicated where individuals hold pensions with multiple providers or where defined benefit schemes are involved. The Daily Express reported that obtaining valuations and allocating tax liabilities correctly may prove time-consuming, increasing the risk of errors if matters are handled in haste.
Advisers cited in the report say they have seen growing numbers of clients seeking reviews of their retirement and estate planning arrangements. Among the approaches discussed are the use of tax-free cash withdrawals where appropriate, transfers between spouses, gifting from surplus income and life insurance policies held in trust.
Mr Cooney cautioned against adopting standardised solutions, arguing that factors such as age, health, beneficiaries’ tax positions and the wider composition of an estate need to be considered together.
While smaller estates may remain unaffected because of existing tax allowances, the report notes that individuals with larger pension pots alongside property or other investments could face greater exposure under the new regime. Advisers quoted in the article argue that those with substantial pension wealth should seek professional guidance well before the changes take effect in 2027.
