An unspent pension might make you pay Inheritance Tax

For years, it has been widely accepted that a pension pot is a smart investment to reduce your tax liabilities.

Historically, that’s been true; unspent pensions have been exempt from Inheritance Tax (IHT), so even if you didn’t get the chance to make full use of it, your family still could.

However, this is set to change. From April 2027, under current Government proposals, unspent pensions will be considered part of your estate for IHT purposes.

If passed into law, this could have an impact on your estate planning, and understandably, it’s raised quite a few questions.

Why am I now at risk of Inheritance Tax?

The IHT threshold is £325,000, increasing to £500,000 if you leave your home to a direct descendant. Combined with your spouse’s allowance, you could potentially pass on up to £1,000,000 tax-free.

However, with rising property values and potentially sizeable pension pots, it’s becoming easier than ever to exceed these thresholds.

If your estate includes a home and an unspent pension, you may be pushed over the limit, potentially triggering a 40 per cent IHT charge.

Does this mean I shouldn’t save into a pension?

Not at all. Pensions still offer major tax advantages during your lifetime. They’re a tax-efficient way to save for retirement, allowing you to reduce the Income Tax you pay on your earnings.

But it’s important to view your pension in the context of your entire estate. With the proposed changes on the horizon, you might want to consider how best to manage your assets as you approach later life.

What can I do now?

Gifting assets during your lifetime can be an effective strategy. If you live for at least seven years after making a gift, it falls outside your estate for Inheritance Tax purposes.

Reducing the value of other assets may also help balance the impact of your pension being counted.

That said, everyone’s situation is different. There’s always a risk of giving away too much and leaving yourself short in retirement, especially since none of us knows exactly how long we’ll need our money to last.

What’s the best strategy going forward?

Although the changes are not due to come in until April 2027 (and are still technically proposals), recent history suggests such reforms are likely to proceed with minimal amendment.

By reviewing your estate, speaking to our financial advisers, and taking advantage of legitimate tax planning opportunities, you can take control of your finances and avoid unnecessary liabilities.

If you’d like to discuss how the proposed pension changes could affect you, or if you need guidance on structuring your estate, please get in touch.

Dominic Bourquin