Autumn Budget 2024 Pensions Included in Estate for IHT

In a dramatic change to recent government policy on pensions, any unused pension funds will now be included in your estate on death and therefore potentially subject to inheritance tax (IHT) at 40% from 6 April 2027.  Existing  death/taxation rules (that started in April 2024) will also be carried over in payment after any IHT has been paid, in some circumstances beneficiaries of the pension fund may then also be subject to income taxes after IHT has been paid.

What are the current Pensions on Death rules?  See Pension Death Benefits 24

Lump Sum Death Benefit Allowance (LSDBA) = either £1,073,100 or a Protected Amount if you previously had Lifetime Allowance Protection but let’s work on £1,073,100.

• Less any tax-free cash lump sums taken since 6^th April 2024 = Your Remaining LSDBA.

Uncrystallised Pensions Benefits After 6^th April 2024

• Death Before Age 75

1. Lump sum death benefits below remaining LSDBA = Tax Free.
2. Lump sum death benefits above remaining LSDBA = Taxable at beneficiary’s marginal rates of income tax.
3. BUT:  Death benefits paid as ‘pension’ are not tested against the LSDBA.  Therefore, if beneficiaries choose “Beneficiary Drawdown” to take the deceased’s remaining pension benefits (death before age 75), they are tax free.
4. You must ensure that your pension provider offers Beneficiary Drawdown on death.

• Death After Age 75
  • 5.  Both crystallised and uncrystallised funds whether taken as either a lump sum or as a drawdown pension are subject to the beneficiary’s marginal rate of income tax income tax with no effect on LSDBA.

Inheritance Tax Comes First (Before any of the above LSDBA rules)

• From 6 April 2027, all ‘unused’ pension funds (that’s those that have already had the tax-free cash taken [crystallised funds] and those that have not had tax free cash taken yet/before death [uncrystallised funds] as well as any death in service (DIS) lump sum life insurance benefits from work will be included in your estate for inheritance purposes).
• If you are gifting all the above to your legally married spouse or civil partner, the pension fund will be included in the estate but as gifts between spouses on death are inheritance tax free the surviving ‘legal’ spouse/partner will be subject to the income tax rules above (points 3, 4 and 5 above).
• If you are gifting pension funds on death to your ‘unmarried’ on ‘non-legal/civil’ life partner/co-habitee or children or others, then the pension fund will be included in the estate and potentially subject to inheritance taxes at 40%. 
• If this is the case:  the personal representatives (PR) of the estate (executors (if there is a Will) or the Administrators (intestate/no will) will be required to liaise with the pension scheme administrators and the pension scheme administrators will let the PRs know the amount of death benefits payable and the beneficiaries and then IHT calculated if the total estate is over and above any inheritance tax nil rate bands available.  The payment from the pension fund will then be subject to income taxes rules (points 3, 4 and 5 above).
• It is again therefore crucial that you check that your pension scheme already offers Beneficiary Drawdown on death.

We are still looking into the repercussions of the above (as is that Government with a consultation already ‘up and running’ with replies required by 22 January 2025 on how best to implement the above).

• For example:  We are already thinking about the ramifications of dying without a Will (intestacy) and the different laws of estate distribution on intestacy for England and Wales, Scotland and Northern Ireland.
• Laws of intestacy may force some of the estate (including the pension fund) to be paid out to children and risk creating an immediate inheritance tax liability whereas if it were paid to a legally married spouse/civil partner only then no IHT would be payable on 1^st death.

See Intestacy Videos: 

Death No Will England Wales Death No Will Scotland Death No Will Northern Ireland

Our Initial Thoughts:

• If you have been keeping your pension funds and not drawing on them as you were planning to gift to children/other loved ones on death – you need to review this.
• If you have postponed taking tax-free cash lump sums, you should consider reviewing this as you can take your tax-free cash today and either gift to loved ones (with the 7 year survival ‘clock’ ticking) or take advantage of other IHT planning investments such as business property (100% IHT relief up to £1m), discounted gift trusts and inheritance loan trusts.
• Start drawing your tax-free cash and taxable pensions now (pay income tax as normal) as you can then make unlimited gifts from ‘normal income’ that are immediately outside your estate (provided your standard of living has not been reduced).
• Review your ‘expression of wishes’ (death benefit nomination for each pension scheme) as it may be more beneficial for your surviving legal spouse/civil partner to inherit your pension fund inheritance tax free, and they then have time to plan for inheritance taxes.
• For the same reason, spousal bypass trusts may need to be revisited.  Bypassing your spouse/civil and leaving your pension fund in trust for e.g.  children may leave you with the IHT headache on first death whereas any future growth on that same pension fund (now in trust for your children) after death would not form part of your spouse/civil partner’s estate on 2^nd death which may have caused an even bigger IHT liability on 2^nd death had the pension fund (+ growth) been left to your surviving spouse.
• Your employer may wish to reconsider any death in service benefits (life cover) and go back to the old way of a separate ‘excepted’ group/company life insurance scheme that would not form part of the pension scheme for IHT  on death and remain exempt.
• If you hold a self invested personal pension (SIPP) or a small self-administered scheme (SSAS) you may hold commercial property or other direct assets/commodities inside the pension fund that may be difficult to sell quickly and given IHT must be paid within 6 months of death, this may create cash-flow/payment problems.

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