Estate Planning in a Post 2027 Landscape: Rethinking Pensions as an Inheritance Tool

Following Royal Assent of the Finance Act 2026 on 18 March 2026, fundamental changes to the inheritance tax (IHT) treatment of pension death benefits are now law. These reforms mark a significant departure from the long-standing view that pensions are one of the most efficient vehicles for passing wealth free of IHT.

HMRC subsequently published a Technical Note on 11 May 2026, setting out further detail on the collection mechanism, information sharing obligations, and asset valuation rules that personal representatives and pension scheme administrators will be required to follow.

While the Technical Note outlines an indicative timetable for the secondary regulations and supporting guidance that will give full effect to the new regime, we examine several key elements of the reforms, which have been projected to raise an additional £40billion in tax over the next two decades.

The basics - how the inheritance tax treatment of pensions is changing

Under current rules, pensions are generally exempt from IHT where the scheme administrator has discretion over the payment of death benefits. As such, most lump sum payments and beneficiary drawdown arrangements currently pass free of IHT, though they may be subject to income tax.

From 6 April 2027, most uncrystallised pension funds and pension death benefits will be treated as part of the deceased’s estate for IHT purposes. The long‑standing distinction between discretionary and non‑discretionary death benefits from pensions will no longer shield pension wealth from IHT. Instead, the value of a pension at death will generally be aggregated with the rest of the estate, potentially triggering a 40% IHT charge where thresholds are exceeded.

Certain important exclusions will remain, however. Most death in service lump sums will continue to fall outside the IHT estate, as will any pension benefits paid to an exempt beneficiary, such as a surviving spouse, civil partner or charity.

It is also important to remember that life insurance proceeds can still fall outside the chargeable estate when written in trust, offering a valuable planning tool at a time when pension benefits are set to become more widely exposed to IHT.

Who will be responsible for reporting and paying the inheritance tax?

Personal representatives (executors or administrators) will bear the primary legal responsibility for reporting the value of unused pension funds and death benefits to HMRC, and for settling any IHT due on those pension assets.

Once a pension scheme beneficiary becomes entitled to death benefits, they will assume joint and several liability with the personal representatives for the IHT attributable to those benefits.

In certain circumstances, both personal representatives and beneficiaries may issue a payment notice to the pension scheme administrator requiring the administrator to pay the IHT liability. Upon receiving a valid notice, the administrator must pay the amount specified in the notice within 35 days.

In practice, the new regime will require close coordination between personal representatives, beneficiaries and pension providers. Where pension schemes hold illiquid assets, discussions will be needed to determine how the IHT liability will be funded before any payment notice is issued. Pension schemes with illiquid holdings will also need to work proactively with beneficiaries to assess options for asset realisation ahead of a notice being served.

Income tax – the “double tax” trap?

Most pension death benefits are already subject to income tax when received by beneficiaries, specifically where the member dies aged 75 or over, or where a member dies under 75 and the benefits are designated outside the two‑year window – the period within which scheme administrators must allocate death benefits to beneficiaries for them to remain free of income tax.

Bringing pension funds within the IHT estate inevitably creates the risk of a double tax hit. Initial proposals prompted concern over the possibility of an effective 67% rate of tax, leading the Government to introduce a new income tax deduction.

Broadly, the deduction will be available where a beneficiary receives taxable pension income that reflects a pension death benefit on which IHT has been paid. In such cases, the beneficiary may deduct the IHT borne in respect of that benefit from their taxable pension income.

For example, if a beneficiary receives £100,000 of taxable drawdown income in a tax year and £40,000 of IHT was paid in respect of the same pension death benefit, the beneficiary may deduct the £40,000 from their taxable pension income. In this case, only £60,000 would remain subject to income tax for that year.

Where the IHT exceeds the taxable pension income in a particular year – for example, where drawdown income is taken over several years – the excess may be carried forward and deducted against future taxable pension income arising from the same benefit.

Although the deduction offers some relief, it is available only where strict statutory conditions are met, particularly around the timing of the IHT payment and when the economic burden is treated as falling on the beneficiary.

In practice, delays in settling IHT or in reimbursing personal representatives may affect the timing of when relief can be claimed. Accordingly, decisions around the timing of pension withdrawals, estate administration and the funding of IHT liabilities will need to be carefully aligned. These issues are no longer purely administrative and may have material tax consequences.

The challenges ahead

A range of practical challenges are likely to arise under the new regime. One example is where an estate is asset rich but cash poor, or where pensions form a substantial part of overall wealth, making it particularly difficult to fund the IHT bill. Any delay in paying IHT will increase interest charges but may also postpone a beneficiary’s ability to claim the new income tax deduction, affecting both their cash flow and complicating their wider tax position.

Another significant change is the introduction of a withholding notice, which will allow a personal representative (or a prospective personal representative where there is no will) to instruct a pension scheme administrator to withhold up to 50% of a beneficiary’s entitlement. The use of both withholding and payment notices highlights the administrative complexity HMRC anticipates – and the additional burdens that personal representatives, beneficiaries and scheme administrators will now need to navigate.

The new rules will inevitably increase administration demands, raising the risk that personal representatives miss the six month deadline for paying IHT and causing delays in distributions to beneficiaries.

Concluding thoughts

Despite the loss of their broad IHT exemption, pensions will continue to play a central role in long‑term financial and estate planning. Their core advantages remain intact: tax‑relieved contributions, tax‑free investment growth, and the ability to defer income tax until funds are drawn. For many individuals, these benefits will continue to outweigh the new IHT exposure.

Nevertheless, for those who have already accumulated significant pension wealth with the intention of passing it on free of IHT, the reforms make tailored advice and proactive planning more important than ever to ensure pension wealth continues to be managed efficiently.

 

This article is intended to provide general commentary on the tax treatment of pension death benefits following recent legislative changes. It does not constitute legal, tax or financial advice and should not be relied upon as such.

Nothing in this article should be taken as a substitute for tailored advice. Individuals affected by the matters discussed should seek professional advice before taking any action in relation to their pension arrangements, estate planning or tax affairs.