As announced at the Autumn Budget 2024, from April 2027, inherited pension funds will be subject to inheritance tax, marking a significant change in their use from an inheritance tax mitigation planning perspective and impacting inheritance tax and estate planning going forwards.
Many have rightly used the existing inheritance tax exemption for the vast majority of inherited pension funds to build up pension funds, leave them to accumulate and remain undrawn, to leave to their nominated beneficiaries free of inheritance tax (albeit potentially still subject to income tax, depending on whether the policy holder dies before the age of 75 or after).
This strategy has now been turned on its head.
Given the inheritance tax exemption, pensions funds have always been the last pot of wealth to use/spend, and using other assets to fund living expenditure etc in retirement. However, the removal of the exemption changes this.
Those with pension funds will likely want to use those funds, income tax efficiently for living expenditure and carry out lifetime inheritance tax planning with other assets in their estate (which now also includes assets qualifying for Business Property Relief and Agricultural Property Relief given the changes to those reliefs).
Even if policy holders don’t need the funds, they may decide to draw from the pension funds and engage in inheritance tax planning with the income – potentially using the ‘normal expenditure out of income exemption’.
All with reasonable pension funds should now review their existing exposure to inheritance tax which will be significantly impacted by this change.
The change may also drive investment decisions – maybe pushing some back to considering annuities where they had lost their attractiveness. Discussions should be had with your financial adviser regarding the impact of the change from an investment strategy perspective.
It is also an opportune time to check that you have nomination forms in place, and that they are valid, adequate and reflect your current wishes.
Some have reacted (an over reaction in my view) that the attractiveness of pensions has reduced. Yes, the changes are obviously not ideal, however, pensions are still extremely tax efficient vehicles, and still have a sizeable place in tax planning strategies and wealth planning in general.
The government is now consulting on the mechanics of the payment of inheritance tax on inherited pension funds. We will update at the end of this consultation process and when further detail is released.
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