Your pension could be subject to Inheritance Tax next year. Here’s how to prepare

According to FT Adviser, 48% of advisers reported that their clients have recently enquired about reducing or stopping pension contributions.

This stems from anxiety about new tax rules, coming into effect from April 2027, which will bring pension savings into the scope of Inheritance Tax (IHT). The change could increase IHT bills for thousands of people across the UK.

With the new rules fast approaching, it’s easy to feel pressured to make decisions quickly, especially if you were relying on your pension for estate planning purposes.

However, it is also important that you don’t panic. Otherwise, you could make a mistake that ultimately ends up harming your long-term financial planning objectives.

Read on to learn how your IHT liability could change once the new rules come into effect, as well as various strategies that might help you reduce a large bill.

Combine pension pots with other assets to determine the new value of your estate

From 6 April 2027, unused pension pots will be included in the value of your estate and therefore liable for IHT. You can learn more about the policy change by reading our 2024 Autumn Budget update.

To discover how the new rules might affect you from the 2027/28 tax year, you’ll need to calculate your estate’s potential IHT liability after the changes. You can do this by combining the sum of your pension pots with the value of your estate’s qualifying assets. These are defined by HMRC and include:

• Home and other properties, buildings, or land
• Money in banks, building societies, or ISAs
• Investments
• Personal items like antiques, jewellery, or art.

You’ll need to use up-to-date market valuations for each of your assets to create an accurate financial picture of your estate. If you are unsure about how to value your assets or the size of your pension pots, you can reach out to your financial planner for guidance.

Calculate your new IHT liability after qualifying relief thresholds

Next, you’ll need to calculate the new amount of IHT your estate is liable to pay, which is taxed at the standard rate of IHT (40%) above certain thresholds:

• The nil-rate band provides £325,000 of IHT relief per person for the 2025/26 tax year.
• The residence nil-rate band offers up to an additional £175,000 of IHT relief per person for the 2025/26 tax year, provided you are passing on your main home to direct descendants.

If you qualify for both thresholds, your estate can receive up to £500,000 of IHT-free relief.

Additionally, you can pass your entire estate to a spouse or civil partner without IHT, and they inherit your unused nil-rate bands, meaning you could pass on up to £1 million between you.

However, as property prices rise and pensions will soon become part of the estate for IHT purposes, you could exceed this threshold, and the surplus will be taxed at 40%.

For example, if your estate, including your pension, is worth £1.1 million at the time of your death, then £100,000 of your inherited wealth would be liable for IHT, which means your beneficiaries would pay HMRC £40,000.

Note: If your estate’s value exceeds £2 million, your residence nil-rate band begins to taper away at a rate of £1 for every £2 over this threshold. As the maximum residence nil-rate band is £175,000 per person, if you are married or in a civil partnership, it is lost entirely once your estate exceeds £2.7 million.

Mitigate your new IHT bill by using alternative tax efficiency strategies

While the upcoming changes mean your beneficiaries could pay more IHT on your estate, there is a broad range of mitigation strategies you could consider.

Lifetime gifting

Lifetime gifting allows you to use certain annual allowances to reduce the value of your estate by passing on wealth to your loved ones while you are still alive.

Lifetime gifting allowances include:

• The annual gifting exemption – Individuals can give £3,000 worth of IHT-free gifts each year.
• Small gift allowance – You can give IHT-free gifts of up to £250 to as many individuals as you like.
• Wedding gift allowance – You can give a further £5,000 to a child, £2,500 to a grandchild, or £1,000 to anybody else for a wedding.

You may also be able to make unlimited IHT-free transfers by taking advantage of the “gifts from surplus income” rules. However, these gifts must meet certain criteria before they fall outside of your estate, so it’s important to seek professional advice.

Using these allowances helps to reduce the value of your estate gradually. You will benefit from lifetime gifting by using it sooner rather than later, and over a long period.

Potentially exempt transfers (PETs)

Any gifts that exceed the annual allowances described above are considered potentially exempt transfers (PETs). There aren’t any limits to PETs, meaning you can transfer large sums of wealth at once.

However, a PET only becomes IHT-free if the donor lives for more than seven years after giving the gift.

If the donor dies within seven years of giving the gift, it may become liable for IHT, charged at a reduced rate based on how much time has elapsed since giving the gift. This is known as taper relief.

Read our previous article to learn more about lifetime gifting and PETs.

Trusts

Trusts can move your wealth outside of your estate by changing legal ownership of assets to a nominated third party, therefore partly or completely removing IHT liability.

There are various types of trusts you can take advantage of, but tax rules aren’t uniform across all of them; each has its own specific set of criteria and regulations.

Due to their complexity, if you are considering a trust to help mitigate IHT, it is important that you speak to a financial planner who can help decide which option is right for you.

Contact your financial planner for further guidance

Fortunately, while the pension tax rules are troubling, there are many options to help you mitigate IHT. However, knowing which strategy is best suited for you and your financial objectives can be difficult.

That’s where we step in. Your Caliber financial planner can tailor an IHT-efficiency strategy that suits your financial objectives and estate planning goals. And by taking the burden of tax and estate planning off your shoulders, we can restore your financial peace of mind.

If you’d like to learn more about how we can help, email contact@caliberfm.co.uk or call 01525 375286 to speak to one of our team members today.

Please note

This article is for general information only and does not constitute advice. The information is aimed at individuals only.

All information is correct at the time of writing and is subject to change in the future.

Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The Financial Conduct Authority does not regulate estate planning, cashflow planning, tax planning, trusts, Lasting Powers of Attorney, or will writing.

Equity release will reduce the value of your estate and can affect your eligibility for means-tested benefits.

A lifetime mortgage is a loan secured against your home. To understand the features and risks, ask for a personalised illustration.

Remember that taper relief only applies to gifts in excess of the nil-rate band. It follows that, if no tax is payable on the transfer because it does not exceed the nil-rate band (after cumulation), there can be no relief.

Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.