Planning how your pension benefits pass on matters now more than ever. From April 2027, unused funds and some death benefits may be included in the estate for inheritance tax purposes. That change could alter decades of common practice.
We will explain, in plain language, what this shift means and why families should review their arrangements. We cover the two main levies that affect heirs: inheritance tax and income tax, and how they can interact.
Our guide is practical. We set out what to review, what questions to ask your provider or adviser, and how to record decisions. We use familiar examples — helping with a first home deposit, school fees or a simple financial cushion — so the options feel real.
Whether your plan is a defined contribution pot or a defined benefit scheme makes a big difference. For detailed technical context, see our summary of professional guidance at BDO’s guidance and practical tips at MP Estate Planning.
Key Takeaways
- Rules change from April 2027 — review arrangements now.
- Unused funds may enter the estate and affect inheritance tax exposure.
- Income tax can also apply to beneficiaries when funds are drawn.
- Different approaches suit defined contribution and defined benefit schemes.
- Ask clear questions of providers and record your choices in writing.
- Seek professional advice for complex business or large savings holdings.
How pension death benefits work in the UK
Understanding how death benefits are paid gives families certainty during a difficult time.
We explain the practical differences between defined contribution pots and defined benefit arrangements.
Defined contribution versus defined benefit on death
Defined contribution plans usually pass a pot on more flexibly. Trustees or providers may allow a lump sum, drawdown for a beneficiary, or an annuity.
By contrast, defined benefit schemes often pay a spouse or civil partner pension, a limited lump sum, or dependant benefits. They rarely transfer the full technical value of the scheme.
Why many plans sat outside the estate
Historically most death benefits fell outside the legal estate because trustees held discretion over payouts. That discretion meant payments were not automatically treated as part of probate for IHT.
Beneficiary nominations and trustee discretion
Expression of wish forms tell trustees your preferred beneficiaries. They do not bind trustees, and a will does not override scheme rules.
Outdated nominations cause delays or payouts to the wrong people. Trustees typically ask for ID, death certificate and proof of relationship before releasing benefits.
- Checklist mindset: confirm your scheme type, review nominations, and match paperwork with family plans.
- For practical guidance see our note on avoiding charges at inheritance and pensions.
Leaving pension to grandchildren tax efficiently uk: the tax rules you must understand
Simple rules about age and withdrawals can change who pays what after you die. We’ll explain the key points so you can act without confusion.
The rule of 75 and income charges
If you die before age 75, a defined contribution pot can usually be paid free of income tax. Beneficiaries can take a lump sum, move into drawdown, or buy an annuity without a tax charge in most cases.
If you die at or after age 75, withdrawals are treated as taxable income for the beneficiary. They will pay income tax at their marginal rate on lump sums, drawdown payments or annuity income.
Lump sums and the Lump Sum Death Benefit Allowance
The Lump Sum Death Benefit Allowance (LSDBA) is currently £1,073,100. Amounts above that may be subject to income tax at the recipient’s rate when paid.
Practical point: avoid pushing heirs into higher rates
- Three common routes: lump sum, beneficiary drawdown, annuity — each has different timing and tax effects.
- A large lump sum in one year can push a young beneficiary into higher-rate income and cost them more.
- Spreading withdrawals, where the scheme allows, often reduces the overall income charge.
When in doubt, seek regulated advice if funds are large or you have multiple pots. Small timing changes can make a big difference to what beneficiaries pay.
Upcoming inheritance tax changes from April 2027 and what they mean for your family
From 6 April 2027, some death benefits and untouched retirement funds will be added to estate values. This is a big shift for families who used pensions as a clean way to pass wealth on.
Unused pots and death benefits included in the estate
The practical effect: unused funds that were often paid outside probate may now increase the taxable estate. That can create an IHT bill at 40% above the available thresholds.
Who reports and pays the IHT bill
Pension Scheme Administrators (PSAs) will report and pay IHT due from death benefits. They must work with executors or administrators, which may slow payments and add paperwork.
Key exemptions and reliefs
Exemptions still apply for a UK‑domiciled spouse or civil partner. Dependants’ scheme pensions and certain charity lump sums remain outside IHT.
| Item | Effect from April 2027 | Who handles IHT |
|---|---|---|
| Unused retirement funds | Included in estate value | Pension Scheme Administrator |
| Spouse/civil partner payments | Exempt from IHT | Executor/PSA liaison |
| Charity lump sum | Often exempt | Pension Scheme Administrator |
Nil‑rate band, residence band and double risk
The nil‑rate band (£325,000) and the residence nil‑rate band (£175,000) can still reduce exposure when property goes to direct descendants.
Important: heirs may face both IHT and income charges. If death occurs after age 75, combined levies can be severe. We recommend reviewing nominations, estate values and paperwork now and telling executors where to find scheme details.
Tax-efficient options to help grandchildren benefit from your pension sooner
With rules shifting, a new plan for taking income may save money and reduce headaches later.
Two simple decumulation routes help most families decide. One is to use ISAs, cash savings and other assets first. The other is to start drawing from retirement funds earlier under a managed drawdown plan.
Comparing practical routes
| Strategy | Pros | Cons | When to consider |
|---|---|---|---|
| Use other savings first | Keeps retirement pot intact; simpler for heirs now | May leave larger estate exposure from April 2027 | Smaller estates or older beneficiaries |
| Draw from retirement earlier | Reduces future estate value; spreads income | Possible income charges for recipients if taken late | Large retirement pots where IHT risk rises |
| Regular gifts from surplus income | Can be exempt if truly regular and documented | Must not reduce standard of living | Paying school fees or small living costs |
| Gifts and charity | Annual £3,000 allowance, £250 small gifts, PETs, and 10%+ charitable gifts can cut IHT rate | Large gifts need planning; seven-year rule applies | When you want a lasting reduction in estate exposure |
Practical gifting rules
Annual allowance: you can use £3,000 each year and carry forward one year if unused.
Small gifts: up to £250 per person are allowed but do not stack with other exemptions for the same recipient.
Potentially exempt transfers: larger gifts become fully exempt only after seven years. Keep good records and tell executors what you do.
If you need help choosing a route, seek regulated financial advice and read our gift guide for practical steps.
Complex cases: business assets held inside SIPPs and SASSs
Business owners often used workplace wrappers as a way of moving commercial assets into a tax-sheltered envelope after 2015.
After Pension Freedoms and the removal of the lifetime allowance, many directors sold commercial premises or farmland into SIPPs and SASSs. They then paid rent back into the scheme. That approach released capital to the business and sheltered investment value from the estate.
What has been held inside schemes
- Commercial premises and trading company shares.
- AIM-listed holdings and agricultural land.
- Other long-term investment assets and funds.
Why draft reform matters
Draft changes disapply business relief and agricultural relief for assets inside retirement wrappers. That removes the IHT advantage many relied on. In practical terms, an estate bill may force a sale of an asset that the family needs for trading.
| Issue | Impact | Practical step |
|---|---|---|
| Asset held in scheme | May no longer get relief | Review ownership and governance |
| IHT liability arises | Possible forced sale | Plan cashflow or buy-back at market value |
| Unwinding | Unauthorised payment and valuation risks | Obtain professional valuation and advice |
We recommend specialist advice. Circumstances vary and mistakes are costly. Trustees, executors and owners must check scheme rules, valuations and wider fiscal frictions such as income and SDLT before acting.
Conclusion
A quiet review today can prevent big surprises for your heirs tomorrow.
From April 2027, unused retirement funds and many death benefits may be included in the estate. That change alters long‑standing assumptions about how a pension can pass on.
Keep two facts front of mind: who inherits (your nominations and trustees’ decisions) and how withdrawals are taxed (remember the age‑75 rule).
Practical next steps: update nominations, map estate values against nil‑rate bands, and stress‑test scenarios where both inheritance and income charges apply.
Gather scheme paperwork, confirm beneficiaries and scheme type, and book regulated help for complex estates. For policy detail see the IHT consultation summary.
With early planning and clear choices we can protect family outcomes, even as rules change.