In this month’s episode of US-UK Tax Talk, Aidan Grant welcomes back two past guests, Nathan Prior of Partners Wealth Management and Gillian Everall of Everfair Tax. They discuss the inheritance tax reforms for pensions due to take effect in April 2027, and what taxpayers should and shouldn’t do before and after the changes arrive.

Aidan, Nathan and Gillian start with why pensions have long been such tax-efficient vehicles: tax relief on contributions, tax-free growth and, for many people, the ability to pass unused funds on free of inheritance tax. They explain the current rules, including the age-75 threshold and drawdown, and the difficulties US plans such as 401(k)s and IRAs can create under the UK’s foreign pension rules.

The conversation then turns to what changes from 6 April 2027, when unused pension funds become part of a person’s estate for inheritance tax purposes. They cover how the tax will be paid, why a combined inheritance tax and income tax rate of 67% has made headlines, and why reviewing your pension nomination forms matters more than ever. They also look at the new long-term residence regime for Americans moving to the UK, and the unexpected exposure facing British expats in the US who hold large UK pensions.

Finally, they discuss the planning options: transfers to QROPS, drawing funds down and gifting them, annuities, insurance-based strategies, and the case for simply waiting to see what happens.

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Key Takeaways

Why have pensions been such a popular planning tool?

Pension contributions get income tax relief, investments grow free of tax and part of the fund can usually be taken tax-free. For roughly the last 20 years, unused pension funds have also generally sat outside a person’s estate for inheritance tax. As a result, many people came to see their pension as a way to pass wealth to the next generation.

What is changing in April 2027?

From 6 April 2027, unused pension funds and death benefits are due to count as part of a person’s estate for inheritance tax. No pension-specific allowance or reduced rate is proposed.

Who pays the inheritance tax on a pension?

The liability technically sits with the executors. However, the draft rules let executors ask the pension scheme to pay the tax from the fund itself, to the extent the tax relates to that pension.

Where does the 67% figure come from?

Under the proposed rules, a beneficiary who draws down an inherited pension pays income tax on what is left after inheritance tax, with no credit for the inheritance tax already paid. In some cases, that can push the combined effective rate to around 67%.

Should I review my pension nomination?

Yes. Some people nominated their children rather than their spouse because they assumed the pension would be free of inheritance tax anyway. Under the new rules, nominating a surviving spouse may let the fund pass free of inheritance tax, although the family’s circumstances still need to be considered. Remember that pensions do not pass under your will: trustees look at your nomination form.

Should I just take everything out of my pension?

Not necessarily. Money withdrawn from a pension stays in your estate unless you spend it or give it away, and withdrawals may be subject to income tax. Leaving funds to grow tax-free inside the pension may still give a better long-term result.

How are Americans moving to the UK affected?

Under the new long-term residence regime, someone who moves to the UK may have around 10 years before their non-UK assets, including US pensions, come into the scope of UK inheritance tax. That window can be used to plan.

What about British expats living in the US?

UK pensions held by people who have lived abroad for many years will also be affected. Some may face UK inheritance tax exposure they did not expect, even if they no longer own any other UK assets.

Can I transfer my UK pension to the US?

In practice, this is very difficult. There appear to be no US schemes that accept transfers from UK pensions as a QROPS, and transfers to a scheme outside your country of residence can trigger a 25% overseas transfer charge. Recent IRS rules have also largely closed off the Maltese QROPS route.

Are annuities making a comeback?

Annuities are getting more attention, partly because higher interest rates have improved their value. An annuity that ends on death leaves nothing in the pension to be taxed, but joint-life or guaranteed-period features may have inheritance tax consequences.

Is doing nothing a valid option?

It can be. The rules are not yet in force and could change in future, and money taken out of a pension is hard to put back in. For some people, waiting to see how the rules develop may be a sensible choice.

When should someone seek advice?

Before changing nominations, drawing down, transferring a pension or making large gifts. Pension, inheritance tax and cross-border considerations need to be looked at together.