Changes to Pensions and Inheritance Tax from 2027

Inheritance Tax changes from 2027

Historically, many pension pots fell outside the Inheritance Tax (IHT) net, especially when passed through discretionary trusts. However, with growing pension wealth and evolving estate planning strategies, the government sought to ensure fairness and consistency in taxation.

At the Autumn Budget 2024, the government announced that most unused pension funds and death benefits would be added into the value of a person’s estate for Inheritance Tax purposes from 6 April 2027. A technical consultation took place from 30 October 2024 to 22 January 2025, and the outcome has now been published.

Most estates will continue to have no Inheritance Tax liability following these changes. The government estimates that, out of around 213,000 estates with inheritable pension wealth in 2027 to 2028, 10,500 estates — or around 1.5% of total UK deaths — will become liable for Inheritance Tax where this would not previously have been the case.

Please note the existing IHT principles providing exemption for benefits passing to a surviving spouse/civil partner and registered charities will still be maintained.

Pension Funds and Death in Service Benefits

Unused pension funds and death benefits

All unused pension funds and pension death benefits regardless of discretionary or non-discretionary payments will be included within the decease’s estate. Defined benefit pensions, such as final salary pensions should not be affected as these can’t usually be passed on.

Double taxation

Where the total size of the estate is over the IHT threshold, pensions will be liable for 40% IHT followed by an Income tax bill for drawing the remaining benefits if the original pension holder died after the age of 75.

Death-in-service benefits excluded from IHT

All death-in-service benefits (e.g. group life cover provided through pension schemes) will be excluded from estate valuation entirely, even if paid from a registered pension. This includes public sector schemes previously taxed.

Personal Representatives responsible for reporting and payment

Initially it was intended that pension scheme administrators (PSAs) rather than personal representative (PR) would become liable for the reporting and payment of any Inheritance Tax on the pension component of an estate. However, PSAs explained:

• They would have no information on assets and liabilities for the full estate
• They would have no contact details for PR’s or beneficiaries
• They may not be notified for several months after death.

It has now been decided personal representatives, typically the executors of the estate, will become liable to report and pay the IHT on pension assets. However, there will be an option allowing beneficiaries to instruct schemes to pay the IHT directly.

Payment Options

Option 1: PR Pays IHT from the Estate

• If the same people inherit both the estate and the pension, they receive the pension in full
• If the estate beneficiaries and pension beneficiaries are different, the PR can reclaim a share of the IHT from the pension beneficiaries.

Option 2: Pension Beneficiaries Pay Directly

• Beneficiaries can choose to receive the pension funds and settle the IHT themselves with HMRC.

Option 3: Pension Scheme Pays IHT on Instruction

• Beneficiaries can instruct the pension provider to deduct and pay the IHT before releasing the funds.

The government will provide further guidance on how the PR-led process will work in practice. The deadline to pay IHT will remain 6 full months after date of death, but the government recognises estates with limited liquid assets will require tailored payment solutions.

HMRC also plan to update information-sharing regulations to facilitate data exchange between PSAs, PRs, and beneficiaries. It will also develop calculators, process maps and guidance ahead of the April 2027 implementation.

What can I do to prepare for the Inheritance Tax changes?

For individuals’ estate planning:

• Consider using ISA investments, spending pension assets during lifetime, or using Whole-of-Life insurance policies, especially if planning for legacy and IHT optimisation
• Update wills and estate plans in light of these changes, including considering use of trusts or direct gifting strategies.

For executors / personal representatives:

• Start organising estate summaries now, including all pension provider details
• Anticipate income tax considerations on inherited pension payments and enable beneficiaries to recover overpaid income tax if necessary
• Be ready to manage dual tax regimes (IHT + Income Tax) where beneficiaries are over 75 and not married—leading to potential effective tax rates up to 67%.

For pension scheme administrators:

• Prepare to set up internal processes for responding to PR enquiries within tight timelines
• Collaborate with industry bodies to help shape HMRC’s forthcoming guidance and tools.

Summary of 2027 pension and IHT changes

• The policy to include pensions into IHT valuation from 6 April 2027 is confirmed
• Death-in-service benefits are excluded
• Personal Representatives (Executors), not pension administrators, will process pension IHT
• Clear processes, legislation, and tools are promised before implementation
• Families and executors face new compliance burdens, while only a small percentage of estates will see direct tax increases.

This marks a pivotal shift in the treatment of retirement wealth in the UK. While intended to eliminate inequities and close tax loopholes, the new regime introduces material administrative and financial complexity for bereaved families. If you would like to discuss estate planning in light of the new policy, please contact our private client team to make an appointment on 0191 232 9547.