Labour’s plan to levy inheritance tax on pensions will present “significant” challenges for families and administrators, wealth managers have warned, adding it is a “major concern”.
The Chancellor announced in the Budget that unused pension funds and death benefits will be subject to inheritance tax (IHT) of 40 per cent. This change will be implemented from 6 April 2027. At the moment you can give a pension to your child tax-free.
The move could raise almost £1.5bn a year by 2030, according to official estimates, but there are concerns this will result in a double taxation on unused pension funds on death for those over the age of 75 as pots will be subject to both income tax and IHT.
Experts said this will create higher costs for grieving families dealing with estates and risk lengthy delays before people can receive their money.
Jason Hollands, the managing director of wealth management firm Evelyn, said: “The impact of including unused assets in defined contribution pensions funds as part of an estate for IHT purposes is causing major concern.
“This measure will not only trigger much higher IHT liabilities for those who don’t revisit their financial planning, it will also significantly widen the number of people falling into the web of IHT given private pension assets are now a higher proportion of total private wealth in the UK than property is.”
The inclusion of pension assets as part of an estate will be “especially punitive” for those whose estates will subsequently be valued over £2m as, at this level, the £175,000 residence nil rate band – an allowance for passing the family home on to direct descendants – starts to be tapered down until it disappears entirely.
Hollands added: “People who have worked hard all their lives and planned carefully to both secure their retirement and provide for their families after they die, are in many cases now having these plans completely upended. The measures being planned will compel some to draw down on their pensions, especially before age 75, to gift assets to their children and grandchildren.
“We also think it will prompt more older couples to marry or undertake civil partnerships in late life for financial and tax reasons.”
Other experts said the added administrative issues will be vast and likely to raise costs for families.
Jon Greer, head of retirement policy at Quilter, said: “Including unused pension funds within IHT presents significant process challenges. Pension scheme administrators may face administrative headaches, as they will become liable for paying and reporting IHT due to HMRC in respect of pension funds.
“This process would require a degree of back and forth between the legal personal representative and pension schemes.”
Additionally, if the process takes longer than six months to pay the IHT bill then HMRC will start to charge interest.
While the current interest rate on outstanding IHT was 7.25 per cent, it had previously risen as high as 7.75 per cent, Greer said.
He added that one of the biggest hurdles is the delay in notifying pension schemes when someone passes away.
He said: “Schemes are not always immediately aware of a death, and sometimes months can pass before they are informed. This delay complicates matters for legal personal representatives, who must track down the deceased’s pension schemes, confirm the death, consolidate information from the schemes and navigate the legal and tax complexities.”
In a letter seen by the Financial Times, Michael Summersgill, chief executive of AJ Bell, said that the Budget proposal was “arguably the most complex and costly way of raising tax from unused pensions on death”.
Writing to the Chancellor, he said: “If the government presses ahead with the proposals as written, it will risk fundamentally undermining the UK pensions system.”
He called on Reeves to get rid of a quirk in the system where beneficiaries do not have to pay income tax on the proceeds if the pensioner dies before the age of 75.
Greer added: “Ultimately, while reforming the IHT treatment of pensions could generate additional revenue, the government must strike a balance between simplification, fairness, and operational feasibility. Tax rules are already complex, and any changes should avoid imposing additional burdens on grieving families and their representatives.
“At present, pensions offer significant tax benefits, and pulling the rug out from under those who have planned their futures based on the current framework feels retrospective and unfair without some form of transition.”
A Conservative spokesman said: “Labour’s budget continues to fall apart in front of our eyes.
“Not content with punishing pensioners by taking away Winter Fuel Payments from 10 million, these changes will now hurt families looking after their bereaved’s pensions.”
It comes as retailers have also criticised the Budget, warning there will be closures, job losses and price hikes as a result of higher employers’ national insurance rates and an increase to minimum wages.
The head of Britain’s biggest business lobby group is set to tell leaders today that “tax rises like this must never again simply be done to business”.
Rain Newton-Smith, CEO of the Confederation of British Industry (CBI), which represents 190,000 firms, will say that “margins are being squeezed and profits are being hit” and when you “hit profits, you hit competitiveness, you hit investment, you hit growth”.
