3 reasons not to panic about the changes to Inheritance Tax rules surrounding pensions

In October, chancellor Rachel Reeves delivered the new Labour government’s first Budget.

Prior to the announcement, speculation had been rife about what changes the chancellor might make, particularly after she suggested the Budget would be “painful”. Many expected the government to make changes to tax legislation, particularly regarding Inheritance Tax (IHT).

Though some of the rumours about potential changes didn’t come true, Reeves did announce some significant changes to tax legislation. One of these was to remove the ability to pass on pensions to your beneficiaries free from IHT.

Understandably, this announcement has caused some concern for those who are planning to pass on their pension funds to beneficiaries as part of their estate plan. But, it’s important to understand all the facts before you consider making any changes to your financial plan – rash decisions that are based on fear are unlikely to be the most suitable choices for your long-term financial wellbeing.

So, read on to learn more about the proposed changes to the IHT rules surrounding pensions, and three reasons why the announcement needn’t cause you to panic.

From April 2027, unused pension funds will be considered part of your estate for Inheritance Tax purposes

Currently, if you have funds in a defined contribution (DC) private or workplace pension when you pass away, you can usually pass these funds on to beneficiaries free from IHT. This makes pensions an attractive wrapper if your estate is likely to be liable for IHT after you pass away, especially if you have enough wealth in other types of assets to fund your retirement without depleting your pension savings.

As you may have read in my summary of the Budget, Rachel Reeves announced that the government would be closing this “loophole”. Consequently, unused pension funds will be considered part of your estate for IHT purposes from April 2027. This change will also apply to death benefits that are payable from a pension.

3 reasons not to panic about the proposed changes

Though the announcement marks a significant change in IHT legislation for pensions, it’s important not to panic about how this could affect your estate plan. Here are three reasons why.

1. The change won’t come into effect until April 2027, so there’s plenty of time to plan ahead

It’s important to note that the current rules won’t change immediately. The nil-rate band and residence nil-rate band have both been frozen for a further two years, until 2030. So, these thresholds will remain at £325,000 and £175,000 respectively until then. Moreover, the changes to the IHT rules surrounding pensions won’t be implemented until April 2027.

Within that time, lots can change, including your personal circumstances. I usually recommend reviewing your financial plan at least annually, so this gives us plenty of time to make any necessary changes.

2. The government estimates that the change will affect just 8% of estates from 2027

Though a lot of people worry that IHT may affect the financial legacy they are able to leave to loved ones, very few estates are liable for the tax.

The BBC reports that around a third of Brits expect their estate to be liable for IHT, but currently just 4% of estates pay the tax.

The government expects that the new measures will mean that IHT affects 8% of estates each year. So, even when pensions are included in the IHT calculations, you may find that your estate still falls below the threshold for liability when you pass away.

3. The details of the proposal are under consultation and may change

The government is conducting a consultation until 22 January 2025 to review the details and practicalities of implementing the suggested change. This means that, by the time the new rules are put into place, we will have a lot more detail about exactly how it will work and who will be affected.

This is another reason not to jump straight into looking for solutions or changes to make to your current plan. Any amends you make to your estate plan in anticipation of these changes may turn out to be unnecessary when we know more about the details.

So, rather than panic and start making changes now, it’s more sensible to wait until we know more. That way, we can work together to ensure you only make changes to your plan where necessary, and that your plan continues to give you the greatest chance of fulfilling your ambitions in the future.

Get in touch

It’s natural to feel nervous about how changes to fiscal policy and tax legislation could affect your ability to achieve your long-term goals. But I’m here to help you understand how the new rules might affect you, and create a plan to ensure you can still fulfil your ambitions both today and in the future.

Email Marnel.Stafford@fosterdenovo.com or call 07305 970959 or 0207 469 2800 to find out more about how I can help you.

Please note

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future performance.

The tax implications of pension withdrawals will be based on your individual circumstances. Thresholds, percentage rates, and tax legislation may change in subsequent Finance Acts.

Workplace pensions are regulated by The Pension Regulator.

The Financial Conduct Authority does not regulate estate planning or tax planning.