Pensions update

Following the recent announcements in the Budget regarding the proposed changes to the taxation of pension funds for Inheritance Tax (IHT) as well as the restrictions introduced to Business Property Relief (BPR) and Agricultural Property Relief (APR), many will now need to be reviewing their pension arrangements more closely.

Historically, those with both chargeable assets for IHT as well as pension savings, have generally chosen to avoid drawing on those funds as they could be passed to the next generation free of tax and as such, spending other resources has always been more efficient IHT planning.

With effect from April 2027 however, it is proposed that pension savings will fall within the remit of IHT with 40% chargeable on funds held at death where the estate exceeds the nil rate bands. The strategy of holding on to these savings to be passed on death should now be reviewed as it is likely that going forwards, drawing on these funds and using the money in other ways could be more tax efficient.

Where the 25% tax free element has not been taken, this could now be considered with the funds generated either spent, gifted away or invested elsewhere – potentially into business assets where some relief may be available. Where cash is gifted away, provided the donor survives 7 years from the date of the gift, it will fall outside the estate for IHT completely. In addition, cash gifts do not attract capital gains tax (CGT). These options are also likely to be more attractive where there is some or all of the basic rate tax band available – paying 20% income tax on drawing the funds (and spending it!) is preferable to paying 40% IHT.

Those who have their pension funds held as SIPPs will also need to review their position – early indications are that where a SIPP holds land that is being used for agricultural purposes and would therefore otherwise qualify for APR, the £1 million relief at 100% will not apply. As a result, these assets will now potentially become chargeable on death despite consisting of assets that would ordinarily attract relief.

Pensions are also likely to become far more important for those who will now find themselves in the position whereby they will need to consider gifting business assets earlier in life. The restrictions to BPR and APR on death from April 2026 is likely to result in assets being passed to the next generation at a far earlier age to ensure the donor survives 7 years and the assets therefore pass without tax.

Having given away the assets, consideration will then need to be given to funding retirement. If any benefit is retained from the assets gifted – for example, if income is drawn in any way, there would be a ‘gift with reservation of benefit’ and the gift would fail for IHT purposes. To be able to make such gifts, and for those gifts to be effective, thought will need to be given to paying into pension funds at a much younger age to ensure that by the time they are looking to gift away the assets from which they derive an income, they have an alternative income source to take its place.