More work needed on measures introducing Inheritance Tax on Unused Pension Funds and Death Benefits
Stakeholders have confirmed that more work is needed on measures introducing Inheritance Tax on Unused Pension Funds and Death Benefits.
What happened?
Between 30 October 2024 and 22 January 2025, the Government consulted on the process for reporting and paying Inheritance Tax (IHT) on unused pension funds and death benefits.
On 21 July 2025, the Government published a summary of responses and a formal response to the technical consultation. Additionally, the Government published the Draft Finance Bill Measures: Inheritance Tax on Unused Pension Funds and Death Benefits.
The Government’s formal response confirms, amongst other things, that:
- unlike the current position, most unused pension funds and death benefits (including those in respect of persons who die before the minimum age at which they can put their benefits into payment) will be included in the value of a deceased’s estate for inheritance tax purposes;
- lump sum death in service benefits are outside scope of the new IHT regime;
- personal representatives (PRs) will be liable for reporting and paying IHT, not pension scheme administrators, although the administrators will have new duties to support the PRs in paying IHT;
- the existing exemption for pension death benefits passing to a surviving spouse, civil partner, or registered charity will be maintained;
- the changes take effect for pension member deaths on and after 6 April 2027.
Procedurally, accounting for any IHT is a five-stage process:
- PRs make contact with the deceased’s pension schemes and establish the value of the benefits in all the deceased’s schemes, and the list of potential beneficiaries.
- PRs value the combined estate.
- PRs file IHT account and pay IHT if any.
- Pension scheme administrators distribute pension benefits.
- Adjustments to IHT by the PRs. Beneficiaries make any adjustments to income tax, direct with HMRC.
Why?
The Government says the measures are intended to stop pension schemes being used as a tax planning vehicle to transfer wealth, rather than for funding retirement. At present, according to the Government, individuals can accumulate unlimited tax-free savings in their pension, draw on other means to fund their retirement and leave their unused pension assets to be inherited by beneficiaries without any IHT charge.
The Government indicates the average IHT liability is expected to increase by around £34,000 when pension assets are included in the value of the estate.
Potential issues
There are many criticisms from the industry as to how this tax will work. Below are just some of the many concerns that organisations such as The Association of Consulting Actuaries, amongst others, have outlined.
- PRs will be responsible for paying IHT on assets they don’t control. This could create tensions where PRs and/or beneficiaries of the ‘free’ estate are in conflict with the trustees and/or beneficiaries of the pension scheme.
- There will be a disproportionate impact on the financial dependants of unmarried deceased persons who were members of Defined Contribution schemes. This would not be the case for members of Defined Benefit Schemes, and the trend from DB to DC brings more assets into scope.
- There is confusion over what benefits are within scope of IHT. For example, whether a refund of contributions on death are in scope.
- Pension schemes which have made significant investments into illiquid assets may face difficulties raising liquid assets to pay the IHT. There may also be costs associated with valuing these assets at the date of death.
- Proposed timescales for valuing assets and paying the IHT are unrealistic and unworkable:
- It is not uncommon for pension scheme administrators to be notified of a death months after it happened.
- Estates and pension schemes with an overseas component typically take longer to share and validate information.
- If a member dies without a will, it can be difficult to identify whether there are PRs and beneficiaries for the estate. There is a risk that administrators will never obtain the relevant information for these estates and that the IHT position will never be clarified.
- PRs may be unaware of or unable to trace multiple pension pots acquired by an individual during their lifetime, potentially with different beneficiaries.
- The complexity of pension scheme trustees’ discretionary processes may cause delays and there may be sensitivities in sharing personal information about vulnerable beneficiaries.
- If there is a dispute between family members or other potential beneficiaries in deciding pension beneficiaries then it may take longer for administrators to confirm the beneficiaries for IHT purposes.
What’s next?
The Government welcomed comments on the draft legislation by 15 September 2025.
HMRC has committed to publish further guidance and process maps as well as a calculator to advise whether IHT is due, and a straightforward system to pay the tax liability. HMRC says it will develop mechanisms to account for any overpayments and ensure these are refunded to beneficiaries.
Once the legislation is finalised:
- Pension schemes should check which death benefits will be in scope of IHT.
- Employers will want to ensure their pension schemes are ready for the changes.
- Members may wish to take advice on their own circumstances.
If you need advice on this matter, or any other pensions issues, see how our specialist pensions lawyers can help.
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