The Labour Party government wants to bring an end to a tax loophole which was created by the pension freedoms of a decade ago.
State pensioners face staggering 87% tax bill from HMRC under change
Some state poensioners could be taxed 87 per cent inheritance tax on their pensions from April 2027. The Labour Party government wants to bring an end to a tax loophole which was created by the pension freedoms of a decade ago.
Those freedoms meant people no longer had to buy an annuity with their pension savings, and so they could build up pension pots to pass on wealth to the next generation free of inheritance tax.
The very highest effective level of tax could affect those with estates worth £2 million to £2.7 million, including unused pension savings.
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That’s because above £2 million, you start losing the £175,000 IHT allowance that applies if you leave a property to your children or grandchildren. The allowance ‘tapers’ down between £2 million and £2.35 million, or £2.7 million for a married couple.
Steve Webb, former pensions minister and now partner at consultancy LCP, said: “Nothing has changed in this regard. There’s still a risk in the largest estates that having a pension on top could mean your nil rate band is tapered down on top of the marginal rate referred to above, making a total 87% rate possible.”
Director at WEALTH at Work, Jonathan Watts-Lay, said this huge change should make them reconsider. He said: “For those who have already retired and have additional savings beyond their pension, a shift in thinking and strategy could be beneficial.”
He told GB News: “From an IHT perspective, it could now be better to spend pension savings first and preserve other assets for later on. This is the opposite approach to what has previously been the case.”
At present, up to £325,000 can be passed on tax-free under the Nil Rate Band, boosted by £175,000 when a home is left to children or grandchildren.
Any assets above this are taxed at 40%, meaning an example £350,000 pension pot would be slashed to £210,000. However, if the estate is worth more than £2million, the experts calculated taxation could reach 87%.
This is because the Residence Nil Rate Band, a £175,000 allowance that protects family homes passed to children or grandchildren, will gradually reduce or taper away entirely.
They calculated a £350,000 pension would wipe out the full allowance on a £2million estate, meaning an extra £70,000 inheritance tax bill would be due.
Once a 45% income tax charge (£94,500) is applied, the total tax burden would reach £304,500, an eye watering 87% of the pension.