Do pensions count towards your estate for Inheritance Tax purposes?

Under current rules, money within a pension pot is not usually included in the calculations for Inheritance Tax when you die. Technically, the money in a pension is held in a ‘trust’ and so is not considered to belong to you in the same way that a house does – or savings in a bank.

When you die, the pension provider will pass the money on to any dependants you have (for example, your spouse or children), taking into account your wishes. You can let them know your wishes by filling in a form to nominate who you would like the money to go to (known as ‘beneficiaries’). The amount that is left in your pension pot when you die can then go straight from the trust to the beneficiaries, which avoids it being paid into your ‘estate’ and so is not counted for Inheritance Tax.

The question about whether your family will pay Income Tax when they receive it is slightly more complicated. If you die under the age of 75, the money should be payable to your beneficiaries tax-free (more on that at the end). If you die over the age of 75, however, the money is ‘taxable’ as if it were the income of the person who receives it. In other words, it is added to the income they earn in that year and taxed at whatever rate applies.

It is worth checking whether your pension is one that would let your beneficiaries put the money into an account of their own after your death (called a nominee or beneficiaries drawdown account). If it is, they would be able to time the payments out of the account to suit their individual tax situation. For example, if a beneficiary was already paying higher rate Income Tax on their earnings, they might delay taking the money from the pension until they themselves were retired or earning a lower amount in a future tax year. This could result in them paying less tax - if any - on the pension income.

A final word on the tax-free payment of pension benefits when someone dies under the age of 75. There is a limit on how much can be paid tax-free in this circumstance, which for most people is £1,073,100. However, this limit is reduced if the person who has died took any tax-free pension in their lifetime and/or if they took something called a serious ill-health lump sum. If you think this is something that might affect you, you should seek personal advice.

Talking Finances is a trading name of Talking Finances Ltd. Talking Finances Ltd is an appointed representative of Parallel Lines The Advisor Collective Ltd, No.2 Sopwith Court, Slough Road, Datchet, Berks SL3 9AU, which is authorised and regulated by the Financial Conduct Authority. FCA Registration No. 967228

• All content is based on my understanding of current legislation, which is subject to change.

• This response is for general information only and does not constitute advice.