Are Pensions Subject to Inheritance Tax?

Pensions have long been one of the most inheritance-tax-efficient assets in the UK. Because a defined-contribution pot is normally held in trust by the scheme and paid at the trustees’ discretion, it has sat outside your estate, so it escaped the 40% charge that applies to savings, property and investments. That has made pensions a powerful way to pass wealth down. From April 2027, however, that advantage is being curtailed, and it changes the planning picture for a great many families. The distinction that matters is between what the rules are today, what they become in 2027, and how your beneficiaries’ own income tax interacts with both, so it is worth taking each in turn rather than relying on old assumptions.

The rules today

Under the current regime, an unused defined-contribution pension is generally free of inheritance tax on death. What your beneficiaries then pay depends on your age: if you die before 75, they can usually draw the pot free of income tax; if you die at 75 or older, they pay income tax at their own rate on whatever they withdraw. Defined-benefit (final-salary) schemes work differently, typically paying a spouse’s or dependant’s pension rather than a transferable lump sum. Our guide on how pensions are taxed on death covers each scheme type.

What changes in 2027, and why it matters

From April 2027, most unused defined-contribution pensions are due to be brought within the estate for inheritance tax. Where the estate exceeds the available nil-rate bands, the pot could be taxed at 40%. For a beneficiary inheriting a pension from someone who died after 75, that can mean inheritance tax on the estate and income tax on their withdrawals: a combined burden that makes early planning valuable. Anything passing to a spouse or civil partner should still benefit from the spouse exemption.

The upshot is that pensions can no longer be treated as an automatic inheritance-tax shelter. Retirees may rethink the order in which they spend assets, review who is nominated to receive death benefits, and look again at gifting and other reliefs. Our complete guide to inheritance tax planning sets out the wider toolkit. Investments can fall as well as rise, and this is information, not personal advice, a vetted, FCA-regulated adviser can model the 2027 rules against your own pots, and Vetted Wealth matches you with one free of charge.

Defined benefit schemes are different

Final-salary and other defined-benefit pensions don’t hold a personal pot in the same way, so the 2027 change is aimed principally at defined-contribution savings, SIPPs, personal pensions and most workplace schemes. A defined-benefit scheme typically pays a reduced pension to a surviving spouse or dependant, sometimes with a lump-sum death benefit if you die in service or within a guarantee period. Those spouse’s pensions remain outside inheritance tax, though the income is taxable in the recipient’s hands. If you are weighing up a transfer out of a defined-benefit scheme, that is a regulated, high-stakes decision, advice is legally required for transfers valued above £30,000, and giving up a guaranteed lifelong income to gain a transferable pot is rarely the right move for its own sake. The security a defined-benefit pension provides usually outweighs its estate-planning drawbacks.

What this means for your planning

For years, a common strategy was to spend other savings first and preserve the pension to pass on free of inheritance tax. From April 2027 that logic weakens, and for some families it reverses. The right approach depends on the size of your estate, your age, your income needs and who your beneficiaries are. Drawing a pension down faster to shrink an estate can create an income tax charge that outweighs the inheritance tax saved, so the two taxes must be modelled together rather than in isolation.

It is worth reviewing three things now: your expression-of-wishes form, which tells trustees who should receive death benefits; the order in which you expect to draw on different assets; and whether the spouse exemption or other reliefs can carry more of the load. None of this requires panic (the change is well signposted) but it does reward a considered review rather than leaving an old plan on autopilot. Our inheritance tax planning service can pair you with a specialist to run the numbers.

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