Pensions have long been treated differently from other assets when it comes to Inheritance Tax (IHT). Under the current rules, if the owner of an uncrystallised pension dies under the age of 75, payments made from their pension within two years can be received by beneficiaries completely income tax-free. However, any lump sums exceeding the current “lump sum and death benefit allowance” — currently £1,073,000 — are taxed at the beneficiary’s marginal income tax rate.
If the deceased was 75 or older, the rules are slightly different. Regardless of whether the fund was already crystallised, beneficiaries are subject to income tax at their own marginal rate on amounts they receive. This does not necessarily mean that the full pension pot is taxed immediately, as beneficiaries can draw the pension or annuity gradually over time, spreading the tax charge. For the deceased, the pension generally remains outside the estate for IHT purposes, so it is not included in the IHT calculation.
Proposed changes announced in the Autumn Statement 2024 and outlined in the draft Finance Bill 2025–26 will bring significant shifts from 6 April 2027. After this date, inherited unused pensions and death benefits will be included within the deceased’s estate for IHT purposes. It’s important to note that the income tax rules for beneficiaries are not changing. Instead, the responsibility for reporting and paying any IHT due on the pension will shift to pension scheme administrators, rather than relying on the estate or the beneficiaries to handle it.
These changes mark an important development in estate planning, as pensions — previously largely exempt from IHT — will now be considered part of the estate. While this does not affect the income tax treatment for beneficiaries, it may influence decisions around pension withdrawals, lifetime gifts, and estate planning strategies. Anyone likely to inherit a pension should start considering how these changes might affect them, particularly in combination with other estate assets.
For those who want to explore the details further, the government has published a technical consultation: Inheritance Tax on Pensions – Reporting and Payment.
