From April 2027, UK households inheriting pension funds may be subject to a 40% inheritance tax (IHT), significantly altering financial planning for many families. The proposal, attributed to the Labour government, is expected to generate billions for the Treasury, sparking debate over its long-term impact.
The planned change marks a shift in the treatment of pension funds, which have historically been excluded from inheritance tax. While the government argues the measure prevents pensions from becoming a vehicle for intergenerational wealth transfer, critics warn it could disproportionately affect savers who planned their retirement finances under existing rules.
Pension : Shift in Taxation Policy
The proposed inheritance tax expansion would apply to defined contribution (DC) pension pots, which are currently passed on to beneficiaries tax-free if the deceased was under 75. For those over 75, withdrawals by beneficiaries are taxed as income, but IHT does not apply.
According to LCP, a superannuation consultancy, the change could generate £640 million in its first year, rising to £1.46 billion by 2029-30. The consultancy estimates the long-term tax revenue could exceed £3 billion annually in the 2030s, as more individuals with significant DC pension balances pass away.
Tim Camfield, senior consultant at LCP, noted that the boom in defined benefit (DB) pension transfers in the late 2010s has left many retirees with substantial DC pension savings. He explained: “Applying inheritance tax to pension balances could prove to be a real gold mine for the Government for many years to come.”
Government Defends Move Amid Industry Concerns
A Treasury spokesperson rejected LCP’s long-term projections, stating that official forecasts, certified by the Office for Budget Responsibility (OBR), predict IHT revenue over a five-year period. The government maintains that annuity savings should primarily support retirement rather than function as a wealth transfer tool.
The spokesperson told The Telegraph: “We continue to incentivise pensions savings for their intended purpose – of funding retirement instead of them being openly used as a vehicle to transfer wealth – and most estates will continue to pay no inheritance tax after these changes.”
Industry experts, however, warn that the new tax could drive pensioners to withdraw funds earlier, potentially increasing income tax revenues while reducing inheritance tax liabilities. While some may attempt to adjust their financial plans, many will be affected by the change, particularly those unaware of the new tax implications.
As the April 2027 deadline approaches, financial advisors are urging superannuation holders to review their estate plans, ensuring they fully understand the impact of the proposed tax and any options available to mitigate its effect.
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