Over 70? Your estate could be hit with up to 87% IHT

From April 2027, a major change in inheritance tax rules will mean some retirees may risk handing over up to 87 per cent of their pension and/or estate to the taxman. The reform, announced by Chancellor Rachel Reeves in her 2024 Budget, is targeted at the over‑70s and those with substantial pension pots. If you’ve built up a decent-sized pension and have other capital assets, you could be among those affected.

A big change is coming to unused pension funds

From 6 April 2027, most unused pension funds and death benefits will be included in the value of your estate for the purposes of Inheritance Tax (IHT).

Currently, pensions have been a tax‑efficient way to pass on wealth: if you die before age 75, beneficiaries can often receive your defined‑contribution pension pot tax‑free. This, however, is changing, with the Government branding pension pots used for legacy purposes as a “tax‑planning vehicle".

Under the new rules, your pension pot will be pulled into your estate. If that estate then exceeds the nil‑rate band (NRB) thresholds, IHT at 40 per cent applies on the excess.

What is the nil rate band?

The nil rate band is the portion of your estate which can be passed on to your beneficiaries free from IHT after death. Typically, the value of your estate, including savings, investments, possessions, and property, above the nil rate band will be subject to inheritance tax, though the rules can be relatively complex and there are some exceptions.

Currently, the nil rate band stands at £325,000 for a single person or £650,000 for a married couple. This threshold is frozen until 2031.

In addition, there is a residence nil rate band (RNRB) for those passing down their main residence to direct descendants. The RNRB allows a further £175,000 to be passed down tax-free, or £350,000 for a married couple. This means in total up to £1 million can potentially be passed on free of inheritance tax.

Consider a retired couple with substantial pension pots of, say, £800,000 in total and a home in the south‑east worth £650,000. Under the current IHT thresholds (nil rate band of £325,000, residence band of £175,000), the couple could pass the whole estate tax‑free, as pensions currently do not form part of the taxable estate.

From 2027, however, the pension pots would be included in the estate and could push the total value well above the tax‑free allowance, potentially triggering a 40 per cent IHT bill.

The average extra IHT burden is estimated at around £34,000 for affected estates.

Passing away after 75 could trigger a larger tax bill

If you die after age 75, additional tax considerations apply. Not only will IHT potentially apply, but your beneficiaries may also face income tax when they withdraw inherited pension funds.

Under current rules, a death after 75 means any remaining pension money is subject to income tax at the recipient’s marginal rate. Combine that with the new IHT inclusion and you get significant combined tax exposure:

• A basic‑rate taxpayer beneficiary could face an effective tax of up to 72 per cent
• A higher‑rate taxpayer: 82 per cent
• An additional‑rate taxpayer: about 87 per cent

These figures represent worst-case scenarios, and while they may apply only in certain circumstances, they underline the importance of reviewing your estate.

Important new spousal exemption announced in Autumn Budget 2025 

In a welcome move, the Autumn Budget 2025 introduced a new spousal exemption designed to offer some relief under the upcoming new rules. Under this change, pension assets left to a surviving spouse or civil partner will be exempt from inheritance tax, even where those assets now form part of the estate under the 2027 rules.

This mirrors the existing IHT exemption on transfers between spouses, providing continuity and reducing potential tax exposure on the first death. It’s important to note that this exemption does not apply when assets are left to children or other beneficiaries, so it may still be worth reviewing how your estate is structured. 

Increasing number of families could be affected by IHT 

Until now, many middle‑to‑wealthy savers assumed their pension would never fall under IHT. That assumption may no longer hold from 2027. The fact that thresholds will remain frozen until 2031 could amplify the number of families affected.

Who might be most impacted?

• Families in the South‑East and London with higher house prices
• Those with pension pots above average
• Couples where one spouse has left a large portion of their pension untouched

Retirees already in their 70s, with less flexibility for long-term restructuring, may wish to start exploring options in due course, though not all actions need to be immediate. 

What to consider to mitigate potential IHT on pensions

With this change on the horizon, some forward thinking can help you stay in control. For example, one practical step is ensuring your pension allows beneficiary drawdown. This lets beneficiaries withdraw pension funds flexibly, potentially spreading the tax impact across multiple years, particularly helpful if they can withdraw during lower-income periods.

There may also be benefits in gifting other assets such as cash or non-pension investments during your lifetime. This approach won’t suit everyone and depends on your circumstances, but it can be both tax‑efficient and personally rewarding.

Other options include converting some of your pension into an annuity or sing whole-of-life insurance (possibly funded via pension withdrawals). Depending on your circumstances, it may also make sense to access your tax-free pension lump sum and gift or reinvest it in a more inheritance-friendly structure. Some may also consider drawing income up to their basic rate band for gifting or spending.

Do bear in mind: while the overall framework is clear, the detailed legislation is still being finalised, and technical aspects may evolve.  

Possible next steps:

If you’ve built up a reasonable pension and are concerned about how these changes might affect your legacy, it’s worth starting a conversation, either with your adviser or a specialist. While immediate action isn’t always necessary, early awareness and informed planning can help ensure your estate is aligned with your wishes.

We offer a free initial consultation to explore what might work for your individual situation and how to keep your legacy as tax‑efficient as possible. 

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This article is intended for general information only, it does not constitute individual advice and should not be used to inform financial decisions.

The Financial Conduct Authority (FCA) does not regulate cash flow planning, estate planning, tax or trust advice.

The information contained within this article is based on our understanding of legislation, whether proposed or in force, and market practice at the time of writing. Levels, bases and reliefs from taxation may be subject to change.

A pension is a long-term investment not normally accessible until age 55 (57 from April 2028 unless the plan has a protected pension age).