Leading up to the Budget I was hearing almost daily rumours and as usual it centred a lot a round pension’s whether this was restricting tax free cash, National Insurance for employers on pensions contributions or reducing tax relief on pension contributions and as predicted a lot of these were wide of the mark. Whilst the overall tax increases that were announced are never nice, they were expected and the Labour government did a good job in preparing us all. Whether you agree with them is a different matter of course and only natural depending on which side of the fence you sit on.
As ever I don’t see my job as reporting all the changes that have been announced I will leave this to the press and broadcasters. Being a Financial Planner, you would not be surprised to hear that the big take away for me though is that from April 2027 pensions will be subject to Inheritance tax (IHT).
To put this in perspective, pension rules have changed frequently over the years, and this latest adjustment is likely part of an ongoing trend. Who remembers pension simplification in 2006 (A-Day) or pension freedoms in 2015. An individual’s pension might have been taxed at 55% if they passed away prior to2015. If the past is anything to go by these rules will continue to be altered and an individual in their 60s or 70s in all likelihood when they pass away these rules today might have changed again. That is why I believe continuing financial advice is so important.
The chancellor confirmed that inherited pensions will be subject to IHT from April2027. Although the government have said their consultation will not close until January 2025, further changes/tweaks could be announced and of course nothing is guaranteed until it happens.
Broadly speaking pensions are usually passed on tax free if you die under 75, although there are lifetime limits when paid as a lump sum. Inherited pension benefits are taxed at the beneficiary’s marginal rate of income tax if you die over 75, or if that lump sum limit is exceeded at any age.
Again, broadly speaking a couple who pass their main residence to their child/children have a combined threshold of £1,000,000 (they each have a nil rate band of£325,000 and residence nil rate band of £175,000). It is important to highlight that any couple with an estate (including their pension from April 2027) of less than a £1,000,000, where at least £350,000 is the family home, will see no change and their pension will not be subject to inheritance tax. I can almost hear the ‘wise old man’ down the pub saying everyone who has a pension will lose 40% of it’s value upon their death…. this is not the case.
The interesting bit is what happens from April 2027 for those who pass away over 75 and their estate is subject to inheritance tax. The pension scheme administrator would be responsible for deducting IHT, and the residue pension would be subject to income tax at the beneficiary marginal rate of income. Leaving your pension to your spouse will not incur IHT therefore it is only when the pension is inherited by another beneficiary such as your child/children could be subject to both inheritance and income tax.
It is impossible to work through all situations as each individual is unique but in my up-and-coming client reviews, I am sure this will play a part in our discussions. However, I would highlight.
· A retired individual can still draw their pension to fund their life in retirement, which is the main point of a pension. No need topanic and make drastic withdrawals, a pension is there to be spent over an individuals retirement.
· Flexible death benefits are important, meaning the beneficiary can still inherit the pension without paying immediate income tax.
· Pensions offer great tax incentives and are a great option to help fund an individual’s retirement.
· This change brings pensions on a par with other assets whether this is property, cash savings or other investments as they are all included within an individual’s estate.
· To help minimise inheritance tax gifting and spending are important as ever.
I do not want to brush the other changes under the carpet, but I have pulled out a couple of key points below.
Currently, investors can pass on certain business assets to their beneficiaries free from IHT when they die. This is known as ‘business relief’ and it includes shares listed on the Alternative Investment Market (AIM). To qualify for business relief, the shares must have been held for more than two years at the time of death. From April 2026, AIM shares will be subject to IHT of 20%. Other business relief-qualifying assets will be IHT-free up to £1 million, but assets over £1 million will be subject to IHT of 20%.
The annual exemption of £3,000 still remains but the chancellor announced that the rate of capital gains tax (CGT) will increase from 10% to 18% for basic-rate taxpayers and from 20% to 24% for higher-rate taxpayers. The changes are effective immediately. The announcement could make ISA and pension funding strategies even more valuable for investors who hold General Investment Account.
