What do the Autumn Budget pension changes mean for you?

The announcement in the Autumn Budget that pensions will be included in inheritance tax (IHT) estates could have a big impact on retirement and estate planning.

The Chancellor, Rachel Reeves, said that from 6 April 2027, pension pots passed to future generations will form part of your estate for IHT purposes.

Here’s our rundown of what’s changing and how this could affect you. Please consider that rules are subject to a consultation running until January 2025 and may be subject to change.

When does inheritance tax apply – and what’s changing?

Currently, pensions largely fall outside your estate for IHT purposes. This allows you to pass on pension wealth to beneficiaries without incurring a 40% tax charge. However, from April 2027, any unused pensions benefits exceeding available IHT thresholds would form part of your taxable estate, unless the IHT exemption on transfers to a spouse or civil partner applies.

Here are the current IHT thresholds:

• Nil-rate band: £325,000 per person can be passed on without incurring IHT. Assets above this threshold – including cash, investments, property, and other possessions – are usually subject to 40% tax, although some other tax allowances may apply.
• Spouses or civil partners: Unused nil-rate bands can be combined, allowing a married couple to potentially double the IHT nil-rate band to £650,000 on the survivor’s estate.
• Residence nil-rate band: If your estate includes a primary residence, an additional residence nil-rate band of £175,000 per person applies. However, this allowance is reduced by £1 for every £2 that your estate exceeds £2 million, falling away completely at £2.35 million.

In the Autumn Budget, the freeze on both the nil-rate band and residence nil-rate band was extended from April 2028 to April 2030.

How could this affect you?

The change means that pensions may no longer play a significant role in estate planning. As inflation and asset growth continue, and with pensions subject to IHT from April 2027, more estates will be pulled over the IHT threshold. This has remained frozen at £325,000 since 2009.

If current income tax treatment of pensions remains unchanged, beneficiaries could face both income tax and IHT on inherited pensions. Currently, if you die before age 75, any pension funds are passed to beneficiaries tax-free. After 75, the beneficiary pays income tax at their marginal rate.

Michelle Holgate, financial planner at RBC Brewin Dolphin, says: “Some individuals may face a situation where, if someone dies at or after 75 – or if the pension value exceeds a threshold before 75 – both income tax and IHT may apply. In certain cases, this combined tax could reach as high as 67% on inherited pensions.”

Financial planning opportunities

Many retirees currently preserve as much wealth as possible in their pensions, often drawing on other assets, such as ISAs or savings, first to maximise the tax-free inheritance they can pass on. “However, with upcoming changes, this strategy may change, and a decumulation approach could become a more tax-efficient option,” says Holgate.

Here are some other strategies you may want to consider, but it’s important to seek financial and tax advice before making changes. The suitability of each approach will depend on your personal circumstances and objectives, including your total assets, income needs, and tolerance for risk.

• Using tax-free cash: “Depending on your overall assets, it may be worth taking your tax-free cash and looking at alternative uses for these funds – such as spending, gifting, or investing in tax-advantaged schemes like Business Relief,” says Holgate. For example, gifts to children or grandchildren are exempt from IHT, provided you survive seven years after making the gift.
• Diversifying investments: Holgate says: “Pension contributions can offer income tax relief, and remain free from capital gains tax (CGT). However, it’s important to balance this with the ability to draw from multiple sources in retirement, with an eye on how these funds will be accessed or passed on to beneficiaries in the future.”
• Enterprise Investment Schemes: You may want to consider alternative tax-efficient investments, particularly if you’ve a substantial estate. “Enterprise Investment Schemes could be a suitable option for some, though it’s essential to seek advice, as these are often high-risk and may not be appropriate for everyone,” says Holgate.
• Gifting pension income or buying an annuity: Reducing the value of your estate by purchasing an annuity or gifting pension income could also be an option. However, this approach should be carefully considered within your wider circumstances, as it may actually reduce the total amount received by your beneficiaries.
• Buying life insurance: Life insurance may cover future IHT liabilities, protecting your assets from having to be sold by loved ones to pay a tax liability. In a higher interest rate environment, insurance pricing can be particularly attractive, especially for whole of life policies. Insurance payouts should be IHT free, provided policies are placed into an appropriate trust.

Next steps

Including pensions within your estate could add another layer of complexity to your estate and retirement planning. A financial adviser can help to run through all your options based on your personal situation.

With tailored financial advice, you’ll feel more confident that you’re making the right decisions for you.

The value of investments, and any income from them, can fall and you may get back less than you invested. This does not constitute tax or legal advice. Tax treatment depends on the individual circumstances of each client and may be subject to change in the future. Neither simulated nor actual past performance are reliable indicators of future performance. Investment values may increase or decrease as a result of currency fluctuations. Information is provided only as an example and is not a recommendation to pursue a particular strategy. Forecasts are not a reliable indicator of future performance. We or a connected person may have positions in or options on the securities mentioned herein or may buy, sell or offer to make a purchase or sale of such securities from time to time. For further information, please refer to our conflicts policy which is available on request or can be accessed via our website at www.rbcwealthmanagement.com/en-uk. Information contained in this document is believed to be reliable and accurate, but without further investigation cannot be warranted as to accuracy or completeness.

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