Inheritance Tax was once widely regarded as a tax that affected only the very wealthy. Increasingly, however, ordinary families are finding themselves caught by it—and the pension changes due in April 2027 are likely to bring many more estates into its scope.
The standard Inheritance Tax allowance, known as the nil-rate band, has remained at £325,000 since 2009. An additional residence nil-rate band of up to £175,000 may be available when a qualifying home is left to direct descendants. These allowances are now due to remain frozen until April 2031.
Meanwhile, house prices, pension funds and other investments have continued to grow. This means that more people are gradually being pulled into the Inheritance Tax net, even though they may not consider themselves particularly wealthy. The tax is normally charged at 40% on the value of an estate exceeding the available allowances.
A significant change is due to take effect from 6 April 2027. Under the new rules, most unused pension funds and pension death benefits will be brought into an individual’s estate when calculating Inheritance Tax.
Until now, pensions have generally provided a tax-efficient way of passing wealth to the next generation because they have normally fallen outside the estate. Consequently, many people have deliberately spent savings and investments first while leaving their pensions untouched.
That strategy may no longer produce the best outcome.
We are already seeing clients whose estates would not previously have paid any Inheritance Tax becoming considerably exposed once their pension assets are included. For example, someone with a home and other assets worth £700,000, together with an unused pension of £500,000, could suddenly have an estate valued at £1.2 million for Inheritance Tax purposes.
Transfers between spouses or civil partners will generally remain exempt, but unmarried couples do not benefit from the same protection. The eventual tax position will depend on factors including family circumstances, wills, pension nominations, property ownership and the allowances available.
This does not mean people should rush to withdraw their pensions or make large gifts without advice. Poorly planned action could create unnecessary Income Tax, reduce retirement security or leave insufficient money for later life.
The important step is to review your position early. A sensible estate-planning review can identify your likely exposure and consider options such as reorganising withdrawals, making gifts, using exemptions, updating wills and nominations, or arranging suitable protection.
Inheritance Tax is no longer somebody else’s problem. With April 2027 approaching, now is the time to understand whether it may become yours.
