The UK Government has announced that from April 2027, pensions will no longer be exempt from Inheritance Tax (IHT). This significant policy change is likely to affect many households, potentially leading to what some experts are calling “double taxation.” Below, we explore what these changes entail, how they could impact your financial plans, and steps you can take to mitigate the effect.
What Are the Changes?
Currently, pensions are generally exempt from IHT, meaning any funds remaining in a pension pot upon death can usually be passed on to beneficiaries without tax liabilities. However, the new rules coming into force in April 2027 will remove this exemption. Pension assets will now be subject to the standard IHT rate of 40% on amounts exceeding the nil-rate band, which currently stands at £325,000 (or £500,000 if a residence is passed to direct descendants).
This change could result in a significant tax burden for heirs. For instance, if an individual passes away with £500,000 in a pension and no other assets, their beneficiaries could face an IHT bill of £70,000, assuming the nil-rate band remains unchanged.
Why Is This Considered “Double Taxation”?
Pensions are already subject to taxation in various forms. Contributions are often made from pre-tax income, but withdrawals can attract income tax depending on the individual’s circumstances. By introducing IHT on pension pots, the same money may effectively be taxed twice—once as income and again as inheritance. This “double taxation” is a key concern for both savers and financial advisors.
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Steps to Protect Yourself
While the new rules are likely to pose challenges, there are strategies you can adopt to safeguard your assets and minimise the tax burden on your beneficiaries:
- Utilise the Annual Gift Allowance
You can gift up to £3,000 per year tax-free. Over time, these gifts can reduce the size of your estate and potentially keep it below the IHT threshold.
- Consider Trusts
Trusts can be an effective way to shield assets from IHT. By transferring a portion of your pension or other assets into a trust, you may be able to ensure that these funds are distributed to beneficiaries without incurring additional tax.
- Maximise Other Tax-Efficient Savings
Explore other tax-efficient savings vehicles, such as ISAs, which remain exempt from IHT. Diversifying your portfolio may reduce your overall tax exposure.
- Review Your Pension Scheme
Some pension schemes may offer more flexibility in terms of how benefits are distributed. Speak to your pension provider or a financial advisor to explore whether transferring your pension to another scheme could offer tax advantages.
- Use the Spousal Exemption
Transfers between spouses or civil partners are exempt from IHT. You may be able to take advantage of this rule to redistribute assets in a more tax-efficient manner.
- Update Your Will
Ensure your will accurately reflects your wishes and takes the new rules into account. This will provide clarity for your executors and beneficiaries, reducing potential disputes or delays.
Seek Professional Advice
Navigating these changes can be complex, and mistakes could result in significant tax liabilities for your loved ones. Financial advisors and accountants, such as those at CMA Accountancy, can help you devise a comprehensive strategy tailored to your unique circumstances.
Final Thoughts
The introduction of IHT on pensions marks a substantial shift in the UK’s tax landscape, with implications for many households. By planning ahead and taking proactive measures, you can protect your assets and minimise the impact of these changes. With careful preparation, it is possible to ensure that your hard-earned savings benefit your loved ones, rather than being eroded by taxation.
If you have concerns about how these changes may affect you, now is the time to seek professional guidance. Early action can make a significant difference.