In the 2024 Autumn Budget, Chancellor Rachel Reeves laid out significant changes to how unused pension savings are treated for inheritance tax (IHT) purposes. George Square explores what these changes mean and how you can prepare.
Starting from 6 April 2027, unused pension funds could form part of your estate and be subject to IHT – a departure from the current tax-free treatment for beneficiaries. While the finer details of the changes are yet to be finalised, it’s clear that careful planning will be essential to minimise their impact.
What’s changing?
Under the current system, any unused pensions are typically passed on to your loved ones tax-free, subject to the discretion of trustees. However, from April 2027, there will be some important changes to be aware of:
- Unused pension savings will be included in Inheritance Tax (IHT) calculations if the total value of your estate exceeds the tax-free threshold. This is currently set at £325,000, or £500,000 if the residence nil-rate band applies.
- If your estate is subject to IHT, the tax will need to be paid before your beneficiaries receive their payments.
This means that any unused pension savings over the threshold could face a 40% tax rate. As a result, the amount left for your loved ones might be significantly reduced.
How could this impact you?
For many people, pensions have long been considered a reliable way to pass on wealth without incurring tax. However, with these new rules, your beneficiaries could face a “double tax hit” if they also have to pay income tax on pension withdrawals.
For instance, if you leave a £500,000 pension pot to a loved one and your estate exceeds the IHT threshold, 40% Inheritance Tax could apply. On top of this, your beneficiary may also need to pay income tax on any withdrawals they make from the pension, which could significantly reduce the overall amount they receive. This makes early, tax-efficient planning more important than ever.
How can you prepare for the 2027 pension changes now?
While 2027 might feel like a long way off, taking steps now can help you avoid any unexpected surprises later. Everyone’s financial situation is unique, but here are some steps you might want to explore:
- Review your retirement and estate plan
It’s important to understand how these changes might affect your long-term goals. You may want to consider whether it could be beneficial to use your pension during your lifetime rather than leaving it as part of your inheritance.
- Make the most of other tax-efficient planning options
IHT can have a sizeable impact on what you leave behind for loved ones. You might also want to explore other ways to pass on wealth, such as making use of your annual gift allowance or transferring assets into trusts. Find out more about how to reduce your IHT liability in this blog.
- Seek professional advice
Navigating these changes requires a tailored approach. Speaking with an independent financial adviser can help you create a strategy that aligns with your personal circumstances.
At George Square, our experienced team of independent financial advisers can help you to understand the implications of these changes for your estate, develop a tax-efficient plan for your retirement, and provide clarity and peace of mind as you prepare for the future.
Please get in touch with George Square today to find out how we can support you.