Experts have warned a new rule announced at the Budget will mean some families struggle to pay their debts
Changes made to inheritance tax (IHT) rules made at the Budget could create long delays for families waiting to receive their relative’s pensions.
From 2027, rules announced at the last Budget mean pensions count towards someone’s estate for the purposes of IHT, meaning some people face paying 40 per cent tax on pensions they inherit.
And under further new rules laid out at this year’s Budget, those expecting to receive a pension may have to wait, because half of the pension can be withheld until HMRC calculates how much tax is due on it. This process can take up to 15 months.
Experts warn that this could cause particular hardship for vulnerable beneficiaries who may urgently need access to the money to pay funeral costs or bills.
Renny Biggins, head of policy at The Investing and Saving Alliance, said the change “risks causing more stress at what is often a traumatic time.”
He added: “For those classed as vulnerable who may be reliant on receiving the money to which they are entitled, it will add increasing pressure at the worst possible moment.”
IHT is charged at 40 per cent of someone’s assets above £325,000 – although there are exemptions and allowances which mean many pay a lot less.
At present, many pensions are not included when the total estate is calculated. This means that unused pension funds often go straight to beneficiaries without being taxed, and executors – usually appointed in a will to manage the estate – do not need to report them to HMRC.
From 6 April 2027, most unused pension funds and pension death benefits will now count towards the estate for IHT calculations.
Personal representatives – who are often family members of the deceased – will be responsible for reporting and paying any tax due.
As of Wednesday’s Budget, these personal representatives will now be able to instruct pension administrators to withhold up to 50 per cent of pension benefits for as long as 15 months while HMRC determines the IHT liability.
This is designed to ensure the correct tax is collected before beneficiaries receive the money. Personal representatives may use it because they would be liable to pay the IHT due and therefore have a vested interest in ensuring the right amount is kept aside before money is distributed to beneficiaries.
Craig Rickman, personal finance expert at interactive investor, said: “Surviving family members may rely on any inherited pension funds to make ends meet, especially if the deceased was the main breadwinner.
“The prospect of waiting more than a year to get their hands on the money is not only absurd but could result in significant financial problems for those left behind, compounding the distress caused by the loss of a loved one. Some could end up spiralling into debt.”
While the April 2027 implementation date is edging closer, Rickman still wants to see the Government change tack and adopt an alternative approach to applying IHT on unused pension savings.
He added: “The proposals in their current form could lead to poorer outcomes in retirement and further damage trust and confidence in the pension system.”
Rish Sareen, chief executive of Trustestate, a probate and will company, said: “This will make an already lengthy probate process even longer, and with more and more people relying on inheritance, delays will make access to funds more difficult.”
Bringing pensions into estates for the purposes of IHT is likely to mean more families pay the tax.
Currently, only around one in 20 estates pays IHT, but by 2031, closer to one in ten will, due to a combination of the new rules and the fact that the threshold at which tax is first owed is being frozen, while the price of assets rises.
Bringing pensions into the estate calculation will pull more middle-class households into the tax net, experts say, especially those whose main wealth lies in pensions rather than property.
For families expecting to inherit a pension, this means the money they were counting on could be delayed or reduced.
Executors and beneficiaries alike will need to understand the new rules and plan ahead to avoid unnecessary stress when the time comes.
A Treasury spokesperson said: “Our changes announced at Budget reflect the requests of stakeholders. More than 90 per cent of estates each year will continue to pay no inheritance tax.”