Autumn Budget 2025: Part 5 - Will the Chancellor Rethink Inheritance Tax on Pensions?

Pension death benefits have long played a vital role in retirement and estate planning in the UK. The government's plan to bring these benefits within the scope of Inheritance Tax (IHT) from April 2027 has generated significant concern across the pensions industry. As we highlighted at the end of Part 4, this is a pivotal moment and with strong industry opposition, the Autumn Budget 2025 is Rachel Reeves' opportunity to reconsider and amend the IHT on pensions proposal.

What's Being Proposed?

The government intends to bring unused pension funds and certain death benefits into the IHT net, meaning that beneficiaries could face a 40% tax charge on inherited pension savings. Pension Scheme Administrators (PSAs) would be responsible for reporting and paying IHT on these funds.

Why Is There So Much Opposition?

The industry's response has been clear and vehement. The proposed changes present significant practical, financial, and fairness challenges:

• Complexity and Delays: PSAs would need to work closely with personal representatives (PRs) to determine IHT liabilities, often relying on individuals with little financial expertise. This could lead to delays, late payment penalties, and distress for grieving families.
• Unintended Hardship: Beneficiaries may face unexpected tax bills long after receiving funds, especially if errors or omissions are discovered later. This could cause financial hardship and undermine confidence in pension saving.
• Administrative Burden: The process would require PSAs to gather extensive information, often from multiple sources, and could expose them to interest charges for late payments outside their control.
• Illiquid Assets: Many SIPP and SSAS schemes hold assets like commercial property or private equity. Forced sales to meet IHT liabilities could disrupt businesses, depress asset values, and harm remaining scheme members.

Credible Alternatives

The industry, including Morgan Lloyd, has put forward credible, practical alternatives that would achieve the government's revenue goals without the same negative consequences:

1. Reintroduce a Flat-Rate Death Tax: A simple, flat-rate tax on death benefits (similar to the pre-2015 regime) would be far easier to administer and understand. This could be set at a rate to match or exceed the expected IHT yield, but without the complexity and risk of hardship.
2. Remove the Age 75 Condition: Tax all death benefits at the recipient's marginal income tax rate, regardless of age at death. This would create consistency, eliminate the need for complex IHT calculations, and remove the Lump Sum and Death Benefit Allowance (LSDBA). It would also allow for more predictable and manageable tax planning.
3. Extend Payment Deadlines: If the current proposal proceeds, extending the IHT payment deadline from 6 to 12 months would give PSAs and PRs a more realistic timeframe to gather information and settle liabilities, reducing the risk of penalties and distress.

The Case for Change

This is Rachel Reeves' opportunity to listen to the industry and deliver a fairer, more workable solution. The current proposal risks undermining confidence in pensions, creating unnecessary hardship, and imposing an unmanageable burden on administrators and families alike. Importantly, the credible alternatives put forward by the industry, including a flat-rate death tax or taxing all death benefits at the recipient's marginal rate, would allow the Chancellor to raise at least as much, if not more, revenue as the existing proposals, but with far less complexity and risk of negative outcomes.

What Should You Do Now?

• Employees and Beneficiaries: Stay informed about the proposed changes and consider how they might affect your retirement and estate planning.
• Employers and Trustees: Review your scheme's asset mix and be aware of the potential impact of forced asset sales.
• Advisers: Engage with clients early to help them understand the risks and plan accordingly.

At Morgan Lloyd, we remain committed to advocating for sensible pension reform and supporting our clients through every change.

Coming Next:

In the next part of our series, we'll provide a summary of the potential changes expected in the Autumn Budget that could affect pensions.