UK wealth managers warn Rachel Reeves over plan to levy inheritance tax on pensions

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Rachel Reeves’ plan to levy inheritance tax on pensions will “undermine” the retirement savings system and risk leaving beneficiaries with higher costs and lengthy delays before receiving their money, UK wealth managers have warned.

In a letter seen by the Financial Times, Michael Summersgill, chief executive of investment site AJ Bell, told the chancellor that the Budget proposal was “arguably the most complex and costly way of raising tax from unused pensions on death”.

“If the government presses ahead with the proposals as written, it will risk fundamentally undermining the UK pensions system,” he warned, noting that there were “simpler” ways for the Treasury to raise money via the retirement savings system.

The government said in the Budget that from April 2027, pensions would no longer be exempt from inheritance tax — a move that could raise almost £1.5bn a year by 2030, according to official estimates.

The changes will result in the “double taxation” of unused pension funds on death after the age of 75 because retirement pots will be subject both to inheritance tax (IHT) and income tax.

Summersgill said the changes risked leaving higher-rate taxpayers paying, in effect, a rate of 64 per cent on an inherited pension. He also warned that beneficiaries could face delays in receiving the pension money, since unused retirement pots will have to go through probate before being distributed from April 2027.

“At what will be an emotionally challenging time for those close to the deceased . . . the process of distributing much-needed support will end up stalled in a much more complicated probate process,” he told Reeves.

The warning comes as wealth managers that offer pension advice such as AJ Bell, Hargreaves Lansdown and Quilter rush to rethink retirement savings plans.

The government’s proposals would require pension providers to use a “personal representative” of the deceased pension owner to calculate how much of their pot could be exempt under the nil-rate band — the amount of an estate that is free from inheritance tax.

But this extra administration would raise costs, Summersgill warned, adding that completing the process in six months — the time limit for paying inheritance tax — would “not just be difficult” but “in many cases . . . prove impossible”.

Delays would be most likely when the deceased had not left a will and had several pension pots from multiple employers. Pension funds that hold hard-to-sell investments could exacerbate delays. 

Instead of bringing pensions within the IHT regime, Summersgill called on Reeves to scrap a quirk in the system where beneficiaries do not have to pay income tax on the proceeds if the pensioner dies before the age of 75.

Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, the UK’s largest “DIY” investment site, said: “If the process takes longer than six months to pay the inheritance tax bill then HM Revenue & Customs will start to charge interest, which will add extra headaches for families at what is already an extremely difficult time.”

Jon Greer, head of retirement policy at Quilter, said that while the current interest rate on outstanding IHT was 7.25 per cent, it had previously risen as high as 7.75 per cent.

“At present, pensions offer significant tax benefits, and pulling the rug out from under those who have planned their futures based on the current framework feels retrospective and unfair without some form of transition,” he said. “The government must strike a balance between simplification, fairness and operational feasibility.”

A Treasury spokesperson said inherited pensions will be subject to “inheritance tax once and, if due, income tax once, as is the case with other savings”.

“We continue to incentivise pensions savings for their intended purpose of funding retirement instead of them being openly used as a vehicle to transfer wealth.”