On 30 October 2024, chancellor Rachel Reeves made history by becoming the first woman to deliver a Budget in the UK parliament. During her speech, she announced a range of changes to the tax system, and it’s important that you understand how these new measures might affect you.
For instance, upcoming changes to the rules surrounding Inheritance Tax (IHT) and the treatment of pensions could make it more difficult to pass wealth to your loved ones after you’re gone. In fact, after April 2027, your pensions might face a “double tax” when you pass away.
Read on to learn more.
Your pensions are currently considered outside your estate for Inheritance Tax purposes
When you pass away and your beneficiaries inherit your wealth, they may have to pay IHT, depending on the value of your assets.
In 2024/25, you can pass on up to £325,000 without triggering an IHT charge. This is your “nil-rate band”. If you’re passing your main home to a direct descendant such as a child or grandchild, you’ll also benefit from a £175,000 “residence nil-rate band”.
You can also leave your entire estate to your spouse or civil partner without IHT, and they inherit your unused nil-rate bands. Consequently, you may be able to pass on up to £1 million between you.
When you pass away, the executor of your will calculates the total value of your taxable assets, and any portion of your estate that exceeds the nil-rate bands is usually taxed at 40%.
Currently, your pensions are not considered part of your estate for IHT purposes.
This means that pensions can be a very effective estate planning tool. If you use wealth from other sources, such as ISAs or a General Investment Account (GIA), to fund your lifestyle first, you may be able to retain more wealth in your pension. As a result, you could pass more to your loved ones without paying IHT.
Unfortunately, this exemption will change in the future, potentially making it more difficult to mitigate IHT.
Pensions will no longer be exempt from Inheritance Tax from April 2027 onwards
During her Budget, the chancellor announced that pensions would no longer be exempt from IHT from 6 April 2027 onwards. Considering your pensions may be one of your largest assets, after the family home, this could have a significant effect on the amount of IHT your family pays when you’re gone.
According to figures from the UK government, around 10,500 estates that previously would not have triggered an IHT charge could be subject to the tax as a result of this change. Additionally, among those estates that are liable for IHT, the average bill could increase by £34,000 when pension assets are included in the calculations.
Further to this, your pension might be taxed a second time, depending on how old you are when you pass away.
Your beneficiaries could pay Income Tax on inherited pensions
If the value of your estate exceeds the nil-rate bands, your beneficiaries will likely pay IHT on any remaining funds in your pension. Additionally, they could pay Income Tax when they eventually access the wealth.
If you pass away before 75, your beneficiaries won’t pay Income Tax when accessing an inherited pension. However, if you’re older than 75, your beneficiaries will pay Income Tax at their marginal rate when drawing from your pension.
Effectively, this means that your pension could face a “double tax”, meaning your loved ones lose a significant portion of the wealth they inherit from you.
For example, if IHT is due, £1,000 in your pension would be taxed at 40%, leaving £600. If you passed away after 75, your beneficiary would then pay tax at their marginal rate when they draw from the remaining £600.
As a higher-rate taxpayer, they’d pay another 40%, meaning they’re only left with £360. An additional-rate taxpayer would only receive £330. This means they’ve effectively paid 67% tax on the £1,000.
The Office for National Statistics (ONS) reports that a 50-year-old man has an average life expectancy of 84, and a woman of the same age can expect to live to 87. As such, it could be likely that you will live beyond 75 and your pensions will face a double tax in the future.
We can help you explore ways to mitigate Inheritance Tax
Your pension remains an excellent tool for retirement saving but, after April 2027, it may not be as effective for passing wealth to loved ones tax-efficiently.
As such, you may need to reconsider your estate plan and explore alternative options for mitigating IHT. For example, cash gifts are typically exempt from IHT provided you survive for seven years after giving them. You also have an “annual gifting exemption” which means the first £3,000 you gift to loved ones each year falls outside your estate for IHT purposes right away.
Additionally, you could benefit from other exemptions, such as the “gifts from income” rule or the “small gifts” rule.
Alternatively, you may be able to reduce your IHT liability by using a trust – a legal arrangement that allows you to pass assets to another party, for the benefit of a third party.
We can help you explore these options and decide which is most suited to your financial plan.
Get in touch
If you’re concerned about the IHT your family could pay when you’re gone, we can help.
Please contact us at hello@ardentuk.com or call or WhatsApp us on 01904 655 330. As an award-winning financial advice company with advisers included in the 2024 VouchedFor Top Rated guide, you can be sure that we’re a bona fide company providing excellent advice and high-quality service.
Please note
This article is for general information only and does not constitute advice. The information is aimed at retail clients only.
All information is correct at the time of writing and is subject to change in the future.
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.
The Financial Conduct Authority does not regulate estate planning, tax planning, or trusts.
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.
