Pensions and Inheritance Tax from 6 April 2027: what is changing, who may be affected, and what to consider now

From 6 April 2027, most unused pension funds and many pension death benefits are due to be brought into scope for Inheritance Tax (IHT). The change is aimed at reducing the use of pensions as a vehicle for passing wealth down the generations rather than funding retirement. For some families, the practical effect may be modest. For others, particularly those with substantial defined contribution pension pots and estates already close to or above the available IHT thresholds, it could materially alter retirement and succession planning. The detail matters, and so does the timing.

What are the changes?

In broad terms, from 6 April 2027 most unused pension funds and pension death benefits will be treated as part of a deceased person’s estate for IHT purposes. That is a significant shift from the position many people are currently used to, where unspent defined contribution pensions have often sat outside the estate and therefore been relatively attractive from an estate planning perspective.

The reform is not a blanket rule catching every pension-related payment. Current government material indicates that death in service benefits payable from a registered pension scheme are to remain outside the estate for IHT purposes, and dependants’ scheme pensions from defined benefit arrangements are also outside the scope of the new charge. The broad direction, however, is clear: where pension wealth has not been used during lifetime, it is much more likely to be counted as part of the taxable estate on death than it is today.

Is the ability to take a tax-free lump sum from a pension affected?

On the material published so far, the reform does not abolish the right to take a pension commencement lump sum, often referred to as the tax-free lump sum. The ability, in many cases, to take up to 25% of pension benefits within the existing lump sum framework is a separate part of the pensions tax code.

The April 2027 changes are directed at the IHT treatment of unused pension funds and certain death benefits. That said, the two subjects can become connected in practice. If a person had been intending to leave a large pension fund untouched because it was expected to pass relatively tax-efficiently on death, the changed IHT treatment may alter the attractiveness of that approach.

How might the changes affect people nearing retirement age?

For people approaching retirement, one long-standing planning instinct has often been to spend other assets first and preserve the pension for later life or for beneficiaries. From 6 April 2027, that approach may need to be revisited. If unused pension wealth is going to fall into the estate for IHT purposes, the comparative advantage of leaving the pension untouched may be reduced, particularly for those already holding taxable estates, valuable homes, investment portfolios or business interests that push the estate towards or beyond the available nil-rate bands.

That does not mean everyone should rush to draw benefits. Taking pension benefits can itself trigger income tax, affect investment growth, and change the balance of a person’s assets in a way that is not always favourable. But it does mean that retirement income strategy and IHT planning can no longer be treated as separate conversations. For some, drawing a little more pension over time, making gifts out of surplus income where appropriate, or rebalancing which assets are used to support retirement may be more relevant than before.

There is also a practical administrative point that many will not be aware of in one’s estate as Government guidance indicates that personal representatives will carry responsibility for reporting and paying any IHT due on pension assets within scope, with scheme administrators having a supporting role. Families who assumed pensions would sit neatly outside the estate may therefore face a more involved process after death than they had anticipated, which is likely to have significant delays in the administration of an estate, coupled with higher duties and responsibilities for the personal representatives, who are personally liable for the estate administration.

What Inheritance Tax planning steps might be worth considering?

There is no universal solution, and the right answer will depend on health, age, family circumstances, income needs, wider assets and the terms of the relevant pension arrangements. Even so, the coming change is likely to prompt a review in some familiar areas.

First, people may wish to revisit their overall estate composition. If a pension pot has been retained partly because it was expected to fall outside the IHT net, it may now be sensible to look again at the interaction between pension wealth, ISA holdings, general investments and cash.

Secondly, beneficiary nominations should be checked. Although the IHT treatment is changing, nominations still matter for the administration of death benefits and for understanding who is intended to benefit.

Thirdly, gifting may come back into sharper focus, whether by making outright gifts, using annual exemptions, or considering gifts out of surplus income where the statutory conditions can genuinely be met.

Some people may also wish to consider whether life assurance written in trust could have a role in providing liquidity for a future IHT bill. Others may want to review Wills, the availability of spouse or civil partner exemptions, and whether charitable legacies remain appropriate in the broader context of family wealth transfer given that the unused pension pot would be part of the ‘general component’ for calculating how much of one’s estate could pass to charities where one has left a percentage of their residuary estate to charities. Where business or agricultural assets are involved, pension planning should also be considered alongside the rest of the succession picture rather than in isolation.

What about younger people whose pension pots are still at an early stage?

For younger savers, the immediate impact may be more limited. Many will be decades away from drawing benefits, their pension pots may still be relatively modest, and other priorities such as building financial resilience, clearing expensive debt, buying a home or securing employer matching contributions are likely to remain more pressing than detailed IHT optimisation.

Even so, the psychological shift is important. For years, commentary around pensions has often emphasised their usefulness as an estate planning shelter if funds were not needed in retirement. That message may now carry less weight. Younger people may therefore be better served by viewing pensions first and foremost as a vehicle for long-term retirement security, with tax relief and employer contributions remaining central attractions, rather than assuming an untouched pension will always be the most efficient asset to pass on death.

Importantly, that does not make pensions unattractive. They still offer powerful long-term benefits for many savers. The point is simply that future planning may become more balanced, with a greater need to think about pensions alongside ISAs, family gifting, housing wealth and other investment structures, rather than treating the pension as obviously the last asset to touch.

What should people consider before April next year?

Before April next year, many people may benefit from doing less in haste and more by way of careful review. That review might include checking the current value of pension funds, understanding how they sit alongside the rest of the estate, confirming their expression of wish forms are up to date, and considering whether existing Wills and lifetime gifting plans still reflect the family’s intentions. Those close to retirement may also want to revisit cash-flow forecasts and drawdown assumptions to see whether their planned order of spending still makes sense once the pension’s IHT position is likely to change.

Just as importantly, people should be wary of treating any single tax change as a reason for sweeping action. Drawing large pension sums can produce income tax charges. Gifting assets can raise control and affordability issues. Restructuring investments without a clear plan can create new problems while solving an old one. The better course is usually a joined-up review of retirement income needs, succession objectives and the likely tax position of both the individual and intended beneficiaries.

The present message is therefore one of preparation rather than panic. The law in this area has moved quickly, and detailed implementation material has continued to emerge, but the direction of travel is established: unused pension wealth is set to become significantly less sheltered from IHT than it has been in recent years. For anyone with substantial pension savings, and especially for those already thinking seriously about retirement or intergenerational planning, now is a sensible time to take stock.

For individual advice on the legal and tax planning aspects please contact our Wills and Estate Planning team in your local Fraser Dawbarns’ office. We will be happy to work with you and your financial advisers to achieve the best possible outcome for you ahead of the changes in the rules.

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This article aims to supply general information, but it is not intended to constitute advice. Every effort is made to ensure that the law referred to is correct at the date of publication and to avoid any statement which may mislead. However, no duty of care is assumed to any person and no liability is accepted for any omission or inaccuracy. Always seek advice specific to your own circumstances. Fraser Dawbarns LLP is always happy to provide such advice.