Can couples inherit pension pots tax-free after budget changes?

I have a question about the changes to inheritance pension tax announced in the Autumn Budget.

From April 2027, if you are married and have unused defined contribution pensions at the time of death, will your spouse inherit the pension tax free, as would be the case with a house, savings, etc.?

Will your spouse then be able to receive a pension at the marginal tax rate?

When your spouse dies, will the combined inheritance tax relief apply to the remaining pension?

Thank you. I think many people my age would be interested in hearing the answers.

SCROLL DOWN TO FIND OUT HOW TO ASK STEVE YOUR PENSION QUESTION

Steve Webb responds: Before we get into what’s changed in the Budget, it’s important to understand that the basic features of inheritance tax remain the same.

This means that:

– You still have a ‘nil rate’ of £325,000 per person to match against the value of your property. This figure will remain unchanged until at least 2030.

– Any unused “nil rate band” on the death of the first member of the couple can be used by the surviving spouse.

– You still have a ‘nil rate residence band’ of up to £175,000 per person, meaning your total benefit will be £500,000 if you pass on your main home to your direct descendants.

– Any unused portion of this amount can also be passed on to the surviving spouse, meaning the benefit for the couple could be £1 million.

– Transfers between spouses (but not members of unmarried couples) remain free of inheritance tax.

> Autumn Budget: Rachel Reeves’ big changes and what they mean for you

The main thing that has changed (from April 2027) is that when calculating the value of an inheritance for inheritance tax purposes the value of certain pensions must now be included.

This primarily includes what the government calls “unspent” balances in defined contribution pensions, as well as certain lump sum death benefits under defined benefit or defined contribution pensions.

The government estimates that in just under 40,000 cases, estates that would have been subject to inheritance tax anyway (before the budget change) will now face additional inheritance tax as pension wealth needs to be added to it.

A further 10,000 estates a year will now pay inheritance tax as pensions are taken into account, but this would not happen if pensions were excluded.

Regarding the first part of your question, the answer is yes – the unused DC pension can be left to the spouse and is not subject to inheritance tax, despite the changes to the budget tax.

And the surviving spouse can use this pension pot in the usual way, paying income tax on the money withdrawn.

On the death of a spouse, the estate will be assessed in the normal way – but now taking into account pensions – and any remaining inheritance tax relief will be applied to this total amount.

But from a practical point of view, the new system will unfortunately be much more helpful for grieving families.

Under current circumstances, the person handling the estate (known as the “personal representative”) should already have assessed the value of the assets in the estate and checked whether they are large enough to pay inheritance tax.

All of this needs to be sorted out before probate can be granted.

But in the new world, where pensions are also considered part of the estate, the government indicated in its Inheritance tax advice on pensions that people will have to contact all “relevant” pension schemes of which the deceased person was a member.

This broadly means any defined contribution pension with balances and any other pension from which a death benefit or similar benefit may be due.

The personal representative will need to obtain information from each pension scheme and provider about how much the remaining pension is worth, who the beneficiaries are, and so on.

Once they have this information, and have collected information about all their other assets, they will need to use HMRC’s new online calculator which will calculate their inheritance tax bill.

The calculator will show you how the estate tax bill should be divided among the various retirement funds and how much the personal representative will have to pay.

The personal representative must then notify each pension scheme of the results of this calculation and the schemes will then estimate how much inheritance tax they must pay directly to HMRC.

Once inheritance tax is paid, the pension scheme can pass the remainder of the funds to the beneficiaries.

I believe that this entire process is likely to be terribly bureaucratic and could significantly slow down the already lengthy process of sorting out someone’s financial affairs after they die.

To give one example, if one pension scheme administrator is ineffective and takes a long time to respond to queries, the entire process will be delayed as the final inheritance tax bill cannot be developed until full information has been collected.

There is still time until 2027 to force HMRC to think again about how this will all work in practice.

It would be one thing for the Chancellor to simply announce in a few words in the Budget speech that pensions will now be subject to inheritance tax, but sorting out the practical implications is a huge undertaking.

It is vital to ensure that the Chancellor’s desire to increase income does not come with additional hassle at an already difficult time for many families.