Executive Summary

• The government has reconfirmed its plans to make pensions subject to Inheritance Tax (IHT), with effect from April 2027
• Income tax will apply in addition where the deceased is over age 75, resulting in marginal tax rates of up to 67%
• The deceased’s Personal Representative (Executors) will be responsible for collecting information about pension values, aggregating these with the rest of the Estate, calculating the IHT due, and making sure the IHT gets paid
• Unless pensions are left to exempt persons (such as a spouse or civil partner), the administration could become extremely complicated

The latest proposal raises as many questions as it answers.  There is the promise of further consultation and guidance, and our analysis below may well be overtaken by events before the rules kick in.  Please read on if you are interested….

Introduction 

In last October’s Budget, the Chancellor announced that unused pensions will be brought within the scope of Inheritance Tax (IHT), starting in April 2027. 

The accompanying consultation proposed that Pension Scheme Administrators and the deceased’s Personal Representative would need to work together to determine the amount of IHT due and settle their respective shares of the overall bill.  This was a recipe for an administrative nightmare if the deceased had several pensions.

Last week, the Government published a summary of the responses to the consultation and its conclusions.    

The Conclusions in Brief

The bad news is:

• The proposal to charge IHT on pensions remains,
• If the deceased is over age 75, the pension will also be subject to income taxwhen it is withdrawn , and 
• The April 2027 implementation date remains.  

A key change is that the responsibilities of Personal Representatives have increased.  They will now be responsible for:

• Establishing the value of any pension benefits to be included in the Estate
• Filing the IHT Return
• Paying any IHT due (either instructing the Pension Scheme Administrators to pay it, or paying it out of the rest of the Estate)

The role of Pension Scheme Administrators, as far as the IHT calculation is concerned, becomes mainly one of information provision.  However, in the majority of cases, the Pension Scheme Administrators will:

• Have discretion over who the beneficiaries of the unused pensions will be (in most cases, and bearing in mind the deceased’s expression of wishes), and
• Be responsible for distributing the pension assets to those beneficiaries

Implications

Actions of the Pension Scheme Administrators will impact the IHT calculation.  For example, pension assets distributed to exempt beneficiaries (such as spouses or civil partners) will be out of scope of IHT.  On the other hand, pension assets distributed to non-exempt beneficiaries (such as unmarried partners or children) will be in scope.

Where pension benefits go to non-exempt beneficiaries, the Personal Representative will have the option to require the Pension Scheme Administrator to pay its share of the IHT.  Quite what its share will be is not yet clear.  It could be the average rate on the whole estate or the marginal rate due to the pension scheme.   

There will be no income tax on the IHT payment if the deceased is over age 75.  Alternatively, the Personal Representative could pay it out of the Estate – in which case there will be a mechanism in place to allow the beneficiary to reclaim the additional income tax incurred if the deceased is over age 75.  Non-exempt beneficiaries will be jointly and severally liable with the Personal Representative for any IHT due on the pension they have inherited.  The potential level of complexity in the administration of this is ominous.

The administrative nightmare remains!  Pension Scheme Administrators may feel comfortable distributing funds to exempt beneficiaries.  But, non-exempt beneficiaries could face delays receiving the money until the whole estate has been assessed, causing hardship – and there is a real risk that deadlines for paying IHT will be missed and penalty interest incurred.

What should people do in the meantime?  

As we said, the proposals raise as many questions as they answer.  HMRC says that the process it sets out “does not capture every scenario and will not be suitable for every estate with inherited pension wealth. The government is committed to working with industry experts and other stakeholders to hear feedback, refine and develop the process for reporting and paying Inheritance Tax on pensions. HMRC will lead this process through its existing external stakeholder groups for tax and pensions representative bodies, agents, and advisors. This will inform further tools and guidance on the forthcoming changes to support PRs, PSAs, and beneficiaries ahead of implementation in April 2027.”

One thing that is clear is the importance of having a Will and appointing Executors with the expertise to deal with complicated pensions situations.  Without this, the likelihood of missing IHT payment deadlines and incurring penalty interest increases significantly.

When more is known, decisions can then be taken regarding:

• Reviewing / revising wills
• Reviewing / revising pension scheme expression of wishes forms
• How to take pension benefits 
• Pension consolidation (to simplify the situation)

We will be helping clients with these questions in due course.

Is there any good news?

There were some silver linings:

• The great news for Civil Servants who have final salary pension schemes is that they are completely outside all of this raid on pensions  
• Where employees are provided with death in service benefits through a pension scheme (typically a multiple of salary), these will be out of scope of IHT 
• Income paid to a survivor under a joint life annuity will be out of scope of IHT.  This clarifies the position for unmarried partners – spouses and civil partners were already out of scope.