Pensions In IHT 2027: Who Pays The Tax And How The Process Changes
- Adil Akhtar
- 41 minutes ago
- 16 min read
Pensions in IHT 2027: Who Pays the Tax and How the Process Changes
For decades, unspent pension funds have sat outside the inheritance tax net. That changes on 6 April 2027. From that date, most unused pension funds and pension death benefits will be included within the value of a person's estate for inheritance tax purposes, regardless of whether the pension scheme administrators or scheme trustees have discretion over the payment of any death benefits.
The policy rationale is stated plainly in the government's own documentation. The measure is designed to remove distortions which have led to pension schemes being increasingly used and marketed as a tax planning vehicle to transfer wealth, rather than for their primary purpose of funding retirement income. Whether one agrees with that framing or not, the practical consequence is clear: estates that currently have no IHT exposure, because their liquid assets fall below the nil-rate band thresholds, may cross into taxable territory once pension wealth is added to the calculation.
The government estimates that of around 213,000 estates with inheritable pension wealth in 2027 to 2028, approximately 10,500 will have an IHT liability where previously they would not. Around 38,500 estates will pay more IHT than would previously have been the case. The average IHT liability is expected to increase by around £34,000 when pension assets are included in the value of the estate.
Those numbers are material. And the administrative process for paying the tax, which underwent a significant change following industry consultation, is one that families, executors, and advisers need to understand before it becomes urgent.
What Falls In Scope — and What Doesn't
The scope of the change is broad but not unlimited. The legislation will include unused pension funds and pension death benefits within the deceased's estate on death, regardless of whether the pension scheme operates on a discretionary basis. In other words, the IHT exemption that previously applied to discretionary schemes, whereby the scheme trustees could choose who received the death benefits, keeping the funds outside the estate, will no longer apply as a route to IHT exemption.
Certain categories are explicitly excluded. Death in service benefits payable from registered pension schemes and dependant's scheme pensions from defined benefit arrangements or collective money purchase arrangements are excluded from these changes and will not be in scope of IHT.
HMRC has confirmed that all death-in-service benefits payable from registered pension schemes will be out of scope of IHT, regardless of whether the scheme is discretionary or non-discretionary. This is a significant carve-out, particularly for employees with group life insurance and employer-provided death benefits. The carve-out applies to multiple-of-salary lump sums paid to the dependants of active members who die in service.
The exemption for transfers between spouses and civil partners, a cornerstone of the existing IHT framework, is maintained. The existing exemptions for pension death benefits passing to a surviving spouse or civil partner who is a long-term UK resident, or to a registered charity, will be preserved. Spousal transfers under existing pension arrangements will therefore not be affected by the 2027 change in the same way as transfers to adult children or other beneficiaries.
The Liquidity Problem
One consequence that receives insufficient attention in most coverage of these changes is the liquidity challenge created by including an illiquid pension asset within an estate for which IHT is payable in cash. Pension funds cannot be drawn down by a third party, they sit with the pension scheme administrator until released as a death benefit. The personal representative responsible for paying IHT on the estate needs access to funds, but the pension funds are not theirs to access directly.
This is not an abstract problem. An estate consisting largely of property and a pension pot, relatively common for older individuals who accumulated defined contribution savings while living in a house that appreciated significantly, may have an IHT liability that cannot be settled from available liquid estate assets. The house cannot be sold until probate is granted, and probate cannot proceed until IHT is paid. The pension funds sit separately, in limbo, accessible only through the scheme.
The government has acknowledged this and built specific mechanisms into the new process to address it , but understanding those mechanisms requires understanding the overall framework first.
Who Is Responsible for Paying the Tax
This is where the process changed materially from the original proposal. The initial consultation, published in April 2024, envisaged pension scheme administrators (PSAs) taking primary responsibility for calculating, reporting, and paying IHT on pension death benefits. The industry response was overwhelmingly negative. PSAs pointed out that they had no visibility of the wider estate, no way of knowing the deceased's other assets and liabilities, no information on other pension arrangements held elsewhere, and no mechanism for determining how much of the nil-rate band had been used by other estate assets.
HMRC has confirmed that a deceased member's personal representatives, and not the pension scheme administrators, will be primarily liable for reporting and paying to HMRC any IHT due on unused pension funds and death benefits.
This is consistent with the current process for non-discretionary pension schemes and certain other assets which do not pass directly through the estate but are in scope of IHT. It also means that the executor or administrator of the estate, typically the person named in the will, or appointed by the court where there is no will, takes on responsibility for a significantly more complex estate administration process than they would have encountered under the previous rules.
What the Personal Representative Must Do
The process, as currently set out in HMRC's consultation response, runs broadly as follows:
The personal representative first contacts all pension schemes of which the deceased was a member. Within four weeks of being notified of the death by the personal representatives, the pension scheme must provide the personal representatives with the value of the pension death benefit at the date of death. It is the date-of-death value that matters for IHT, not the later value when benefits are actually paid, which may differ.
The PR then incorporates the pension death benefit value into the IHT400 form alongside the rest of the estate. HMRC has committed to providing a calculator to assist with determining the liability attributable to pension assets. Once the IHT liability is calculated, the PR determines how much of the overall tax relates to the pension component and notifies both the beneficiary and the pension scheme.
Beneficiaries can choose to receive the pension funds and settle the IHT themselves with HMRC, or they can ask the pension scheme to pay the IHT from the death benefits if it amounts to £4,000 or more. The pension scheme must pay the tax to HMRC within three weeks of receiving the instruction.
The Withholding Notice: A Critical New Tool
To address the liquidity problem described earlier, the new regime introduces a mechanism called the withholding notice.
Personal representatives who reasonably expect IHT to be due can direct pension scheme administrators to withhold 50% of the taxable benefits for up to 15 months from the end of the month in which the individual died, and to pay the IHT due to HMRC before releasing the rest of those benefits to pension beneficiaries.
This is a practical safety valve. Rather than requiring the estate to find liquid funds from elsewhere to pay IHT on pension assets it cannot yet access, the personal representative can instruct the pension scheme to retain half the benefit as security until the IHT is calculated, paid, and clearance is received from HMRC. The remaining half can be released to the beneficiary in the interim.
If the instruction is withdrawn or the period ends, the remaining funds can be paid out. And crucially, personal representatives will be discharged from liability for pensions discovered after they have received clearance from HMRC, provided HMRC is satisfied with the disclosure made.
This discharge provision matters significantly in practice. An executor who finds, after clearance, that the deceased held a pension arrangement they did not know about, perhaps an old workplace scheme from decades earlier, would otherwise face retrospective liability. The discharge provision offers protection provided the original disclosure was made in good faith.
The Double Tax Problem: IHT and Income Tax Together
One of the less widely understood aspects of the post-2027 position is the interaction between IHT and income tax. Pension death benefits paid to a beneficiary after the member reaches age 75 are already subject to income tax in the beneficiary's hands. From April 2027, those same funds will also form part of the estate for IHT. Both taxes can therefore apply to the same pot of money.
Where both income tax and inheritance tax apply to the same pension funds, there is a risk of effective tax rates reaching up to 67% for bereaved families where the beneficiary is an additional-rate taxpayer. The mechanics work as follows: the estate pays IHT at 40% on the pension component above the available nil-rate band. The beneficiary then receives the death benefit and pays income tax on it at their marginal rate. For an additional-rate taxpayer, that is 45%. The income tax is calculated on the gross pension benefit, not on the amount remaining after IHT, meaning both charges apply to the same underlying sum.
HMRC has acknowledged this and the rules include a mechanism to partially address it. Where the pension scheme administrator pays IHT to HMRC directly on behalf of the beneficiary, the beneficiary may be entitled to reclaim income tax paid on the portion used to settle the IHT liability. The worked example published by Royal London illustrates this clearly: where the scheme pays £735,000 to HMRC to settle IHT on a £2 million pension, the beneficiary can reclaim income tax at their marginal rate on the amount paid in IHT, in that example, approximately £121,500 for an additional-rate taxpayer.
This is not full relief against the double charge, but it is a material offset.
The mechanics of claiming that income tax refund are still being developed. The process requires close coordination between the pension scheme, the personal representative, and the beneficiary, and HMRC's guidance on how refund claims will work in practice had not been fully published at the time of writing. Anyone facing this scenario after April 2027 should ensure their tax adviser is across the process, because the refund does not arise automatically.
Defined Benefit Schemes: A Different Exposure
Much of the coverage of the 2027 changes has focused on defined contribution pensions, SIPPs, and self-invested arrangements, the vehicles where unspent funds accumulate most visibly. The position for defined benefit (final salary) scheme members is different and requires careful interpretation.
Dependant's scheme pensions from a defined benefit arrangement are excluded from the scope of the IHT changes. This means that a pension paid to a surviving spouse or dependent from a defined benefit scheme after the member's death continues outside the IHT net. The exclusion applies to continuing income payments, not to lump sum death benefits that may also be paid from the same scheme.
A DB scheme member who dies before retirement leaving behind a spouse's pension and a lump sum death benefit needs their estate's IHT position assessed against two separate components: the continuing spouse's pension (excluded from IHT) and any lump sum paid by the scheme (which may be in scope, depending on whether it is a death-in-service benefit paid while the member was an active member, or a pension-stage death benefit). The distinction is technical and the boundaries require careful review. Executors should not assume that a payment from a defined benefit scheme is automatically exempt simply because the overall scheme is a defined benefit arrangement.
Practical Planning Before April 2027
For individuals who want to review their position before the April 2027 start date, the window is relatively narrow and the decisions are not straightforward. The most frequently discussed response, drawing down pension funds and holding them in other structures before death, requires careful thought.
Drawing down a pension increases current income, potentially triggering higher income tax, and the drawn funds then re-enter the estate in whatever form they are held. Cash or investments held outside a pension are subject to IHT without any special treatment. The IHT position may be no better, and in some cases marginally worse, than leaving the funds in the pension and paying IHT on them, depending on the estate's existing IHT exposure, the form in which the drawn funds are then held, and whether any gifts are made.
Pension contributions in ill-health, making contributions to a pension while in poor health with the intention of reducing the estate, are already addressed. From April 2027, contributions made to a pension while the member is knowingly in ill-health no longer reduce the estate, because the pension itself will be included. What previously reduced the estate now effectively offsets within it.
The most genuinely useful pre-2027 planning for most people involves three things. First, reviewing nominated beneficiaries on pension arrangements and ensuring they are current and reflect actual wishes, the pension scheme retains discretion over who receives benefits, even under the new rules, and an outdated nomination can create complications during estate administration.
Second, ensuring executors or personal representatives know about all pension arrangements the deceased may have held, including dormant workplace pensions, because the obligation to report pension assets in the IHT400 falls on the personal representative. Third, for estates where the combined value of property, liquid assets, and pension wealth is likely to exceed the available nil-rate band thresholds, obtaining updated financial advice on the overall estate position, not just pension advice or will planning in isolation.
The Nil-Rate Band Position in 2027
The standard nil-rate band remains at £325,000, with the residence nil-rate band of £175,000 available for qualifying estates where a residential property passes to direct descendants. Combined, these provide a threshold of £500,000 before IHT applies for a single individual. Married couples and civil partners can combine unused allowances, potentially providing £1,000,000 of combined threshold.
The nil-rate band and residence nil-rate band thresholds are frozen until April 2031. For estates where pension wealth has grown substantially in nominal terms, those frozen thresholds will expose progressively more of the estate to the 40% charge each year. The freezing of allowances, combined with the inclusion of pension funds, creates a compound effect over the planning horizon.
One planning option that has gained attention is the use of pension assets to fund charitable giving. The exemption for pension death benefits passing to a registered charity is maintained under the new rules. For individuals who intended to make significant charitable bequests in their will, directing those gifts through the pension nomination, where the charity receives the pension benefit free of IHT, may produce a better outcome than making the bequest from other estate assets. The arithmetic depends on the overall estate structure but the principle is sound.
Key Takeaways
● From 6 April 2027, most unused pension funds and death benefits will be included in the value of a person's estate for IHT purposes, with the measure taking effect for deaths on or after that date. Deaths before 6 April 2027 are governed by the current rules, even where benefits are paid after the implementation date.
● Personal representatives, not pension scheme administrators, are primarily liable for reporting and paying IHT on pension death benefits. This significantly increases the administrative complexity of estate administration for executors handling estates with pension assets.
● Death-in-service benefits from registered pension schemes and dependant's pensions from defined benefit schemes are excluded from the new rules. These carve-outs are meaningful but do not apply to lump sum death benefits from post-retirement defined benefit arrangements.
● The withholding notice mechanism allows personal representatives to direct pension scheme administrators to withhold up to 50% of benefits for up to 15 months, and to pay IHT directly to HMRC, helping address the liquidity problem where liquid estate assets are insufficient to cover the tax on pension wealth.
● Where a member dies over age 75, IHT and income tax may both apply to the same pension assets. The combined effective rate can approach 67% for additional-rate taxpayer beneficiaries; the income tax refund mechanism provides partial relief but requires active claiming.
● Planning before April 2027 should focus on reviewing pension nominations, ensuring executors are aware of all pension arrangements, and obtaining integrated estate planning advice. Simply drawing down pension funds and moving them elsewhere does not automatically solve the IHT problem and may create a worse combined tax outcome.
● Most estates will continue to have no IHT liability after April 2027 — the changes affect a meaningful but not majority proportion of estates. The priority is to identify whether yours is among the estimated 38,500 that will pay more, and to plan accordingly before the start date.
FAQs
Q1: If someone dies before the April 2027 start date but the pension scheme does not pay out the death benefits until after that date, which rules apply?
A1: Well, it's worth noting that this is one of the most practically important timing questions around the new rules, and the answer is clear: the rules that apply are determined by the date of death, not the date the benefits are actually paid. If someone dies on 3 March 2027, the current rules apply and the pension death benefits remain outside the estate for IHT purposes, even if the pension scheme does not make payment until June 2027 or later.
The April 2027 change only affects deaths occurring on or after 6 April 2027. This distinction matters particularly for pension schemes that take several months to process death benefit claims, which is not unusual, especially for larger or more complex arrangements. Families in this position do not need to worry that administrative delays in claiming the pension will inadvertently pull them into the new regime. The date of death is the anchor point, and that date is fixed regardless of what happens afterwards.
Q2: What happens to the inheritance tax liability on pensions if there is no will and the deceased has no personal representative?
A2: In my experience with clients, this is a genuinely practical problem that the rules do not address as neatly as families might hope. Where there is no will, an administrator is appointed rather than an executor, typically the next of kin, who applies to the Probate Registry for Letters of Administration. That administrator steps into the role of personal representative and takes on exactly the same obligations for reporting and paying IHT on pension assets as an executor would.
The complication arises where no one comes forward to administer the estate, or where the estate is relatively small apart from the pension and family members are unaware of their obligations. If no administrator is appointed, there is no personal representative to report the pension to HMRC or issue withholding notices to the pension scheme. In practice, the pension scheme cannot simply pay out benefits in this situation without risk of facilitating a reporting failure. The beneficiary can apply for Letters of Administration themselves, which resolves the issue, but it adds time and cost to what is already a difficult process. Anyone with significant pension wealth and no will should treat this as an urgent prompt to both make a will and appoint executors who are aware of the potential IHT obligations.
Q3: Can the pension scheme refuse to withhold benefits if a personal representative issues a withholding notice?
A3: Well, the short answer is no, once the legislation is in force, a valid withholding notice issued by a personal representative creates a legal obligation on the pension scheme administrator not to pay more than 50% of the taxable benefit to any beneficiary (other than a spouse, civil partner, or registered charity). It is not discretionary. The pension scheme may push back if the notice does not contain the required information or is issued outside the permitted 15-month window from the end of the month of death, but a correctly issued notice must be complied with. That said, there are practical complications.
If the beneficiary is also the executor, which is common where an adult child is both the nominated pension beneficiary and the person administering their parent's estate, the withholding mechanism requires the person to effectively instruct the scheme to hold back their own inheritance. This creates no legal problem, but it does require that person to act in their capacity as personal representative rather than as beneficiary, and to keep those two roles mentally distinct. Advisers dealing with estates in this situation will need to be explicit about which capacity the client is acting in at each stage of the process.
Q4: If the estate and the pension have different beneficiaries, who ultimately bears the IHT cost on the pension?
A4: This is one of the genuinely thorny fairness questions created by the new rules, and it has real potential for family disputes if not handled carefully. The personal representative is primarily liable for paying IHT on the whole estate, including the pension component. But if the estate beneficiaries and the pension beneficiaries are different people — say, the estate passes to one sibling and the pension to another, the estate beneficiaries are in effect funding the IHT on a pension they will never receive.
The rules do address this: personal representatives can reclaim from pension beneficiaries a proportionate share of the IHT that relates to the pension component. In other words, the person who receives the pension can be required to contribute to the tax bill that their inheritance generated. The practical mechanism for this reclaim and the timeline for it is still being refined in HMRC's guidance. The immediate implication is that pension nominations should be reviewed not just in terms of who you want to benefit, but in light of whether any IHT on the pension will be effectively funded by a different person and whether that creates an unintended outcome. A freelancer in Bristol with a SIPP worth £300,000 nominated to a grandchild, and an estate worth £200,000 going to a spouse, creates an IHT attribution question that deserves specific legal advice.
Q5: Does the new IHT treatment affect SIPPs and personal pensions differently from workplace defined contribution schemes?
A5: The honest answer is that the new rules treat unused funds in any registered pension scheme consistently, regardless of whether the vehicle is a SIPP, a personal pension, a group personal pension, or a workplace defined contribution arrangement. What matters is whether there are unused pension funds or death benefits remaining at the date of death, the legal structure of the pension wrapper is irrelevant to whether those funds are in scope. The practical differences are administrative rather than legal.
SIPPs often hold a wider range of assets, including commercial property or equities within the pension, and valuing those at the date of death may be more complex than valuing a straightforward cash or unit-linked fund. For a personal representative trying to establish the pension's value within four weeks of being informed, a SIPP holding illiquid assets presents a greater valuation challenge than a simple workplace pension invested in managed funds. The pension scheme administrator is required to provide the death-date value to the personal representative within that window, but where assets are illiquid or the valuation methodology is contested, this can become a source of delay and potential dispute. Executors dealing with estates containing SIPPs with non-standard assets should flag this early and allow more time in the overall estate administration timetable.
About the Author:
Adil Akhtar, ACMA, CGMA, FCMA, (membership ID is 990250923) serves as CEO and Chief Accountant at Pro Tax Accountant, bringing over 18 years of expertise in tackling intricate tax issues. As a respected tax blog writer, Adil has spent more than eighteen years delivering clear, practical advice to UK taxpayers. He also leads Advantax Accountants, (registered with Companies House), combining technical expertise with a passion for simplifying complex financial concepts, establishing himself as a trusted voice in tax education.
Email: adilacma@icloud.com
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