How Pension Death Benefits Are Changing in April 2027

A quiet shift that could reshape your estate plan

If you have spent any time around pension planning, you will know that the rules have a habit of moving just when you think you have them mapped out. The next significant change lands in April 2027, and it concerns what happens to your pension when you die. For years, pensions have been treated as one of the most tax-efficient ways to pass money to the next generation. That is about to change in a way that many people have not yet fully absorbed.

The headline is simple enough. From April 2027, unused pension funds will be brought into your estate for inheritance tax purposes. That means the value of your defined contribution pension, and any defined benefit pension that still carries a lump sum on death, will sit alongside your home, your savings, and your other assets when HMRC works out whether inheritance tax is due. For a married couple, the nil-rate band and residence nil-rate band still apply, but any pension death benefits above those thresholds will be taxed at 40%.

This is a major departure from the current position. Today, most pension pots can pass to a beneficiary free of inheritance tax, provided the scheme administrator has discretion over who receives the money and you have nominated someone in an expression of wish. The pension tax rules have long favoured keeping money inside a pension wrapper, partly because of this IHT advantage. That advantage is being removed, and the change will affect everyone who has built up a meaningful pension pot, not just the wealthy.

Why the change matters more than you might think

It would be easy to dismiss this as a problem for the very rich. But the numbers tell a different story. The average defined contribution pension has grown steadily, and with the lifetime allowance now effectively gone, there is no cap on how much you can accumulate before you face an additional tax charge. A couple who have both worked for decades, contributed regularly, and seen their investments grow could easily have a combined pension wealth of £800,000 or more. Add a house, and the estate easily exceeds the £1 million threshold when you include the residence nil-rate band. From 2027, the pension element of that estate will be taxed in the same way as any other asset.

There is also a timing issue. If you die before age 75, your beneficiaries can currently take most pension death benefits as a tax-free lump sum, or draw them down without paying income tax. After 2027, the tax-free element remains for the lump sum, but the inheritance tax charge applies first. That is a double layer of taxation that many people have never had to consider. If you die after 75, the beneficiary already pays income tax at their marginal rate on any pension withdrawal. Adding inheritance tax on top of that can leave a family with a much smaller inheritance than they expected.

The change also affects pension transfers. If you are thinking about moving money from a defined benefit pension to a defined contribution arrangement, the timing of that transfer could have a significant impact on your estate. A defined benefit scheme may pay a spouse's pension that continues after death, and that is not caught by the inheritance tax change in the same way. A transferred defined contribution pot, however, will be fully within the estate. That is a crucial distinction to weigh up with a financial advisor before you make any decision.

What stays the same and what does not

It is worth being precise about what changes and what does not. The inheritance tax treatment of pension death benefits is changing, but the income tax treatment is not. Your beneficiary will still pay income tax on any pension withdrawal if you die after 75, and they can still take a tax-free lump sum of up to £268,275 if you die before 75, subject to your lifetime allowance usage. The £4,000 annual allowance for contributions to a pension after you have started drawing an income also remains unchanged.

What changes is the way the pension is valued for IHT. HMRC will look at the entire pension pot at the date of death, including any growth that has happened since you retired. That value will be added to your estate, and if the total exceeds the available nil-rate bands, inheritance tax will be due on the excess. The pension scheme administrator will be responsible for reporting the value to HMRC, and the personal representatives of your estate will need to include it in the inheritance tax account.

There is also a question about how the tax is paid. If the pension is paid directly to a beneficiary, the scheme can pay the inheritance tax out of the fund before the rest is distributed. Alternatively, the estate may need to pay the tax from other assets, which could force a sale of property or investments. That is a practical detail that many people overlook until it becomes a problem.

Trusts and the new rules

Trusts have always been a useful tool for estate planning, and they will become even more relevant once the 2027 rules take effect. If you place your pension death benefits into a trust, the trust can hold the funds outside your estate, and the inheritance tax treatment will depend on the type of trust you choose. A bare trust, for example, gives the beneficiary an immediate right to the funds, so the value sits in their estate, not yours. A discretionary trust, on the other hand, gives the trustees discretion over how and when to distribute the money, which can be more flexible for tax planning.

But trusts are not a simple fix. They come with their own tax rules, including inheritance tax charges on the trust itself every ten years, and on any capital that leaves the trust. The interaction between pension tax rules and trust law is complex, and the April 2027 change will add another layer. This is not a DIY area. If you are considering a trust for your pension, you should work with a financial advisor who understands both pension schemes and estate planning.

Practical steps to consider before 2027

You still have time to adjust your strategy, but the decisions you make in the next year or two could have a lasting effect. Here are a few things worth reviewing with your advisor.

• Check your current expression of wish and nomination forms to make sure they reflect your wishes for who receives your pension death benefits.
• Review your overall estate value, including your pension pot, to see whether inheritance tax is likely to be a problem after 2027.
• Think about whether it makes sense to draw down more income from your pension now, rather than leaving it to grow and be taxed later.
• Consider whether a pension transfer from a defined benefit scheme is still the right move, given that the new rules may make it less attractive.
• Look at the role of trusts in your estate plan, especially if you have a large pension pot or a complex family situation.

Another angle is spending. If you are retired and have enough income from other sources, you might be tempted to leave your pension untouched for the next generation. Under the old rules, that was often a sensible strategy. Under the new rules, it may mean your beneficiaries face a 40% inheritance tax charge on top of any income tax they owe. Drawing down a little more each year, even if you do not need it, could reduce the size of the pot that ends up in your estate. That is a trade-off between your current lifestyle and your family's future, and there is no single right answer.

The role of the financial advisor is becoming more important, not less. The changes are technical, and the interaction between pension tax, inheritance tax, and income tax is rarely straightforward. A good advisor will help you model different scenarios, look at your total estate, and decide whether to take more income, move money into other investments, or set up a trust. They will also help you keep your paperwork in order, because HMRC will be looking closely at pension death benefits from 2027 onwards.

The bigger picture

HM Treasury has made it clear that pensions are no longer a privileged corner of the tax system. The lifetime allowance was abolished, but that was not the end of the story. Bringing pension death benefits into the inheritance tax net is a way to raise revenue without touching the income tax treatment of pensions in retirement. It also aligns the treatment of pensions with other assets, which makes the system simpler in one sense but more complicated in practice.

For most people, the key takeaway is to start planning now. If you are in your fifties or sixties, you have time to make changes that can reduce the impact of the new rules. If you are already retired, you may need to think about how much you draw and when. And if you have a defined benefit pension, you need to understand how the change affects your particular scheme, because the rules are not identical for every type of pension.

The prospect of a tax bill on your pension when you die is not something anyone looks forward to. But with careful pension planning and a clear view of your estate, you can still pass on a meaningful legacy. The key is to act before April 2027, not after.