Why Making Pensions Subject to Inheritance Tax Will Be Tricky for the Government

 

At Fathom Financial, we know that stability and predictability are essential for long-term financial planning. That’s why the government’s proposed move to subject pensions to Inheritance Tax (IHT) from 2027 is raising serious concerns for savers, retirees, and financial professionals alike. While this policy aims to increase tax revenue, the reality is that implementing it won’t be straightforward. From legal complexities to potential public backlash, here’s why the government may struggle to make this policy work.

 

1. Breaking a Long-Standing Principle of Pension Planning

 

• Pensions (usually, there are some exemptions) have been treated as separate from estate assets for IHT purposes, providing a reliable way to pass on wealth tax-efficiently.
• Many individuals have structured their retirement plans around this principle, and a sudden change could feel like a betrayal of trust.
• Retirees who have carefully built their pension pots under the current system may feel unfairly targeted, leading to frustration and legal challenges.

 

2. Legal and Contractual Complexity

 

• Many pension schemes operate under trust-based structures, meaning they do not legally form part of an individual’s estate.
• Applying IHT to pensions would require a major legal overhaul, affecting SIPPs, workplace pensions, and defined benefit (DB) schemes differently.
• If pensions are taxed, who will be responsible for valuing them? This could create significant administrative burdens for both pension providers and HMRC.

 

3. The Risk of Double Taxation

 

• If pensions become subject to IHT on death, but beneficiaries also pay income tax on withdrawals, this could create double taxation issues.
• Imagine inheriting a pension pot where 40% IHT is deducted upfront, and then income tax is charged again when withdrawals are made—this would make pensions one of the most heavily taxed assets in the UK.
• Such an approach would undermine the core principles of pension tax relief, making them a far less attractive savings vehicle.

 

4. Encouraging Early Withdrawals & Tax Avoidance

 

• If pensions are going to be taxed on death, why leave money in them?
• High-net-worth individuals may start withdrawing pension funds early, reinvesting them in ISAs, AIM shares, trusts, or property to avoid IHT.
• Some retirees could spend their pensions faster than planned, potentially leaving them financially vulnerable in later life.

 

5. Political Backlash & Public Resistance

 

• Pensions are seen as personal savings, not taxable inheritance. Changing this could trigger strong opposition from the public.
• The UK’s ageing population means that millions of people are affected, making this a high-risk political move ahead of the next general election.
• If the policy is unpopular enough, it could face delays, amendments, or even be scrapped before 2027.

 

6. Disrupting Workplace Pension Incentives

 

• If pensions become taxable on death, employers may rethink their pension schemes, potentially leading to less generous workplace pensions.
• Defined benefit (DB) schemes could lobby for exemptions, creating an uneven playing field between different types of pensions.
• If the government disincentivises pension saving, people may opt out of pension contributions altogether, undermining their retirement security.

 

7. A Complex & Costly Administration Burden

 

• Pension providers would need new systems to track IHT liabilities, creating significant administrative costs.
• Disputes over valuations, trust structures, and exemptions could lead to a surge in legal battles, further complicating the process.
• HMRC may struggle to enforce IHT on pensions, especially where funds are held in multiple schemes or international pensions.

 

Final Thoughts – A Policy Ripe for a U-Turn?

 

While the government may see taxing pensions as an easy revenue boost, the reality is that this policy could be difficult to implement, unpopular with the public, and full of unintended consequences. Given the potential backlash, there’s a real possibility that the 2027 pension IHT changes will be revised or scrapped before they ever take effect.

 

At Fathom Financial, we help our clients navigate tax-efficient retirement and estate planning—ensuring you’re protected from unexpected policy changes. If you’re concerned about how potential IHT changes could impact your pension strategy, get in touch today to discuss the best options for securing your wealth.

 

 

• *The 2027 changes have only been announced in the budget – legislation has not been published yet.  Even if it is in the Finance Bill as expected, it is possible that there may be further changes which may impact any decisions made in the meantime.
• This blog is for information purposes and does not constitute financial advice, which should be based on your individual circumstances.
• Levels and bases of, and reliefs from, taxation are subject to change and their value will depend upon personal circumstances. Taxation and pension legislation may change in the future.
• The Financial Conduct Authority (FCA) does not regulate Inheritance Tax Planning or Trust Advice.