HMRC’s two-tier IHT plan risks unfairly penalising pensions

From April 2027, unused pensions will be brought under the umbrella of inheritance tax (IHT), as well as their current tax policy of possibly facing income tax upon withdrawal. Now, HMRC is introducing more details on how this pension inheritance tax would be approached.

Under the plans, inheritance could be subject to a two-tier tax system, where important reliefs available on other assets are denied on assets sitting inside a pension. That means estates could face higher tax bills, extra late payment interest and less flexibility at exactly the point families are already dealing with bereavement.

This means that families could lose access to loss on sale relief, business property and agricultural property relief and the option to pay IHT in instalments on certain assets, solely because they are held within a pension.

In addition, pensions may be taxed twice: first as estate capital for IHT and then, where the pension saver dies aged 75 or over, as income in the hands of the beneficiary. For higher-rate taxpayers, that could mean an effective tax rate of up to 64% on inherited pension assets.

AJ Bell, alongside the wider pensions and financial advice industry, has consistently argued that there are simpler, clearer, and fairer ways for the government to meet its policy and revenue-raising objectives without creating this level of complexity and distress for grieving families. As the April 2027 deadline approaches, the scale of the administrative burden these changes will create is becoming impossible to ignore.

Ideally, government would go back to the drawing board and look at simpler options for taxing pensions on death. If it won’t do that then, at the very least, it should treat pensions the same as other assets under the IHT system, rather than creating the double standard proposed by HMRC.

What are the main IHT reliefs which will not apply to pensions?

1. Loss on sale relief

Loss on sale relief means executors can claim back some inheritance tax if certain assets are sold for less than they were worth when the person died. For example, if shares are valued at one price on the date of death but later sold for less, the estate may be able to use the lower sale price instead and get an IHT refund.

However, although this IHT relief applies to qualifying investments held in an ISA tax wrapper it won’t apply those held in a pension.

2. Business property relief and agricultural property relief

These valuable reliefs reduce the taxable value of farmland or business assets by up to 100%, capped at £2.5 million, and 50% relief on anything over that amount. This allows family farms and businesses to be passed on without the owners having to sell the assets to pay IHT.

Again, this valuable relief won’t apply to any farmland or businesses held in pensions, resulting in some executors facing higher IHT bills, and possibly considering moving such assets out of pensions before death.

3. Paying IHT in instalments

HMRC allows executors to pay IHT on certain assets, including commercial property, in up to ten equal yearly instalments. This can help estates avoid selling illiquid assets quickly, though late payment interest is usually charged on the outstanding balance.

But if that commercial property is held with a pension, then such flexibility is not available. Instead, the executor could be looking for a quick sale so they can settle their IHT bill as speedily as possible.

Which IHT reliefs do apply to pensions?

Quick succession relief will apply to pension assets. This reduces the IHT due when the same assets are taxed twice within five years – for example they are taxed under a parent’s estate when passed to a child, and then under the child’s when they die, if that’s within five years.

The IHT due will be reduced on a sliding scale depending on how long it is from the first transfer of assets between estates.

Quick succession relief can be very valuable at bringing down IHT bills, but it can be complicated, and there are strict rules to know about and follow.