By Giliker Flynn – Independent family-run financial advisers, helping families plan confidently for the future.
Why These Changes Are So Significant
For years, pensions have been one of the few assets effectively outside the Inheritance Tax net. They allowed people to build up capital throughout their working lives, spend other assets first in retirement, and pass the pension pot on to beneficiaries without a 40% inheritance tax bill.
That is about to change.
From 6 April 2027, under Labour’s inheritance tax reforms, unused defined contribution pension funds will be treated as part of your estate for Inheritance Tax (IHT) purposes. This means:
Any unused pension funds at death will be added to the value of your estate
If your estate exceeds the available nil-rate bands, up to 40% IHT could be due
The change will impact tens of thousands of households, particularly those with pensions worth £300,000+
For families who built their retirement and estate plans around pensions being IHT-free, this is a seismic shift.
A Quick Recap of Current Rules (Pre-2027)
Before these reforms, pensions benefit from special treatment on death:
Death before 75: Your pension pot can usually be passed on to beneficiaries tax-free (no income tax, no IHT).
Death after 75: Beneficiaries pay income tax at their marginal rate when they withdraw funds — but no inheritance tax applies.
Pensions are generally excluded from your estate when calculating IHT liability.
This meant that many people deliberately used other assets (ISAs, savings, property income) first in retirement, leaving pensions untouched for inheritance efficiency.
How the Rules Will Change From April 2027
The Treasury’s reform means:
The value of any unused pension pot at death will now count as part of your estate.
If the total estate exceeds the nil-rate band (£325,000) and any residence nil-rate band (£175,000), the excess will be taxed at 40%.
Death-in-service benefits are expected to remain outside IHT.
Pension scheme administrators will need to report pension values to HMRC during probate.
This brings pensions in line with other forms of wealth such as property, savings, and investments.
How This Will Affect Different Households
The impact of this change will vary depending on the size of your pension pot and other assets.
Small Pension Pots (Under £250,000)
For many people with modest pensions and few other assets, the IHT impact may be limited or nil.
If your entire estate stays under the nil-rate bands, there may still be no tax due.
However, for couples, property ownership and life insurance can easily push the estate value over thresholds.
Medium Pension Pots (£250,000–£800,000)
This group will likely see the greatest impact:
Many households with pensions in this range already own their home.
Add property and savings to the pension pot, and IHT exposure becomes significant.
For example: £500,000 pension + £400,000 house = £900,000 estate.
Threshold: £500,000 → IHT on £400,000 at 40% = £160,000 tax.
This is precisely the group most estate planners are focused on between now and 2027.
Large Pension Pots (£800,000+)
For larger pension holders, the impact is substantial.
Pensions were historically a key estate planning tool for high-net-worth individuals.
Under the new rules, these pots become a liability as well as an asset.
Without proactive planning, heirs could lose nearly half of what’s left to HMRC.
Example Scenarios: How the Tax Could Apply
Scenario 1 — Pension as the Largest Asset
David dies in 2028 aged 78.
Pension pot: £600,000
Property: £350,000
Savings: £50,000
Total estate: £1,000,000
Nil-rate band + residence nil-rate band = £500,000.
Taxable estate: £500,000
IHT at 40% = £200,000
In 2025, this pension would have been IHT-free. Under the new rules, the family faces a £200k tax bill.
Scenario 2 — Coordinated Lifetime Planning
Helen and Mark, both 68, have:
Combined pension pots: £750,000
House: £400,000
Investments: £100,000
They work with a financial planner between 2025 and 2027 to:
Take phased tax-free lump sums (£200,000 total)
Gift £100,000 to their children (starting the 7-year rule)
Use remaining pensions for income in early retirement
By the time of death, their estate value is reduced by £300,000, saving their heirs £120,000 in IHT.
How to Prepare: Key Strategic Levers
The period between now and April 2027 presents a critical planning window.
Below are the main strategies individuals and families can consider.
(Important: These should always be tailored with professional advice.)
1. Draw Down and Rebalance
Rather than leaving the pension pot untouched, consider drawing down:
Tax-free lump sums (within the current 25% limit)
Additional withdrawals in lower tax years (e.g. after retirement)
Using withdrawals to build ISA holdings or other tax-efficient vehicles
This can reduce the size of the pension pot subject to IHT, while maintaining flexibility.
2. Gifting During Lifetime
Gifting can be a powerful IHT planning tool:
The annual gifting allowance (£3,000 per year) is immediately IHT-free.
Larger gifts are classed as Potentially Exempt Transfers (PETs). If you survive seven years after making the gift, they fall outside your estate entirely.
Using pension withdrawals strategically to fund lifetime gifts can reduce future IHT liability.
3. Use Trusts Where Appropriate
Trusts can:
Remove funds from your estate (depending on structure)
Allow you to retain some control over how money is used
Provide intergenerational planning benefits
However, trust taxation can be complex. They’re not a one-size-fits-all solution — professional legal and tax advice is essential.
4. Align Pension Withdrawals with Tax Bands
One of the most efficient ways to reduce both income tax and future IHT is to:
Withdraw amounts that stay within your basic rate band
Spread withdrawals across multiple tax years
Combine this with ISA investments, which remain tax-free on death (up to 2025 rules)
This ensures you don’t overpay income tax now while avoiding a large pension pot later.
5. Review and Update Nominations & Wills
Inheritance planning with pensions is about more than tax:
Expression of wish / beneficiary nomination forms should be reviewed regularly.
Coordinating your will and nominations ensures assets are passed according to your intentions.
With pensions now falling into IHT scope, clear legal instructions are even more important.
6. Consider Joint Planning
For couples, coordinated planning can double allowances and create more efficient wealth transfer:
Each partner has their own pension and nil-rate band.
Splitting or rebalancing pension holdings can reduce exposure.
Passing assets between spouses remains IHT-exempt.
Joint planning is often one of the most underused, but most effective, strategies.
The Role of Timing
Timing will be critical over the next 18–24 months:
Taking action before 6 April 2027 may allow you to secure tax advantages under the current system.
Early withdrawals can be structured carefully to avoid unnecessary tax hits.
Phased action often beats big one-off moves — both financially and for peace of mind.
Special Considerations for Different Pension Types
Defined Contribution (DC) Pensions
These are the main target of the IHT reforms. SIPPs, workplace DC pensions, and personal pensions will all be included in estate valuations.
Defined Benefit (DB) Pensions
Many DB schemes don’t offer lump sums on death; they pay survivor pensions. The treatment here is more complex, but generally DB will not face the same IHT exposure on unused funds because there’s no remaining “pot.”
Death-in-Service Benefits
Expected to remain outside IHT because they are paid at trustees’ discretion and are not part of the member’s estate.
Tax Planning vs. Financial Security
It’s important to stress: the primary purpose of a pension is to provide income in retirement, not just to reduce tax.
Any strategy to draw down, gift, or restructure pensions should be balanced against:
Your own income needs for the rest of your life
Inflation and longevity risk
Investment performance
Healthcare and care cost contingencies
At Giliker Flynn, we regularly model these scenarios to ensure IHT planning doesn’t compromise financial security.
Case Study: Coordinated Action to Reduce Tax
Patricia and Simon, aged 69 and 71, have:
£850,000 in pension drawdown
£400,000 home
£100,000 in cash
They plan to:
Take £212,500 in tax-free cash across 2025 and 2026.
Gift £150,000 to their two children under the 7-year rule.
Invest £50,000 each into ISAs.
Rebalance withdrawals to keep taxable income within the basic rate band.
Update their wills and nominations.
Projected saving: ~£140,000 in IHT if they live beyond seven years, plus reduced future income tax exposure.
Common Pitfalls to Avoid
Withdrawing too much too quickly and incurring higher income tax unnecessarily.
Failing to consider state benefits or tax allowances that may be impacted by withdrawals.
Overcomplicating planning with trusts without proper legal advice.
Leaving planning too late and missing the pre-2027 window.
Our View at Giliker Flynn
The inclusion of pensions in IHT is a game-changer. It doesn’t mean panic is needed — but it does mean strategic action is.
For most clients, the best results will come from:
Phased planning rather than one big decision
Coordinating pension, estate and income planning holistically
Taking advantage of current allowances before 2027
Our role is to help families strike the right balance between protecting their wealth and maintaining financial comfort.
Practical Next Steps
Review your pension value and total estate projection.
Identify exposure to IHT under the 2027 rules.
Consider phased withdrawals and gifting strategies.
Update wills and nominations.
Coordinate planning with your spouse or partner.
Seek regulated financial advice to avoid costly missteps.
Revisit annually as tax policy can still evolve.
Conclusion
The 2027 inheritance tax reforms mark the end of pensions’ unique status as a “tax-free inheritance vehicle.” For many families, this could mean tens or even hundreds of thousands of pounds in tax that would not have been due before.
But with careful, timely planning, it’s possible to minimise that impact — or even avoid it entirely.
Strategic pension withdrawals, gifting, joint planning and updated estate structures can protect more of your legacy for the people who matter most.
Important: Tax and pension rules can change, and their value depends on your circumstances. Always seek regulated financial advice before making decisions.
Giliker Flynn is a family-run, independent financial advice firm, helping families across the UK protect their wealth and plan confidently for the future.