The average Inheritance Tax (IHT) liability is expected to increase by around £34,000 when pension assets are included in the value of the estate according to drafts proposals published by the government ahead of the anticipated legislation later this year.
In its proposals the government says the measure is designed to remove what is describes as ‘distortions’ in estate planning which have resulted in pensions schemes being ‘increasingly used and marketed as a tax planning vehicle to transfer wealth’ rather than funding retirement. They add it removes the current inconsistencies in the treatment of IHT in different pensions where unused pension funds in discretionary schemes can currently be passed on to beneficiaries after death without any IHT charge.
The £34,000 is described as a ‘static’ estimate, and does not take into account how the inclusion of pensions in IHT calculations could change behaviours and tax advice. Just this week the government has been warned the fall in Capital Gains Tax (CGT) receipts published in this months HMRC tax receipts data is evidence the wealthy will simply change their behaviour amid speculation of a ‘wealth tax’ with incomes from CGT falling from nearly £17bn in 2022-23 to £13.1bn in 2024-25.
The estimate is based on 10,500 additional estate incurring IHT where they would previously not have done, with a total of 38,500 of the 213,000 estates liable by 2027/28, paying more in IHT than previously.
But, acknowledges the government, it is possible tax planning or drawing down pension funds faster may reduce the number of estates affected and impact the projected income the government estimates at £640m in 2027/28, £1.34bn in 2028/29 and £1.46bn in 2029/30.
The proposals have changed in response to HMRC’s consultation. The original thinking was pension scheme administrators (PSAs), rather than personal representatives (PRs) would become liable for the reporting and payment of any IHT on the pension component of an estate to avoid a situation arising where PRs could not access sufficient funds within the estate to pay the IHT attributable to the pension, and to prevent an additional Income Tax liability becoming due on the pension funds used to pay IHT.
But in response to ‘overwhelming feedback’ the government will instead make PRs liable for reporting and paying IHT on pensions
Pension beneficiaries will become jointly and severally liable for any Inheritance Tax due on unused pension funds and death benefits to which they are entitled from the point at which they are appointed.
Pension schemes will be required to make the liability position clear and explain to non-exempt beneficiaries (such as beneficiaries who are not spouses or civil partners) that Inheritance Tax may be due on the pension when informing them about their benefits, how they can access them and options for paying Inheritance Tax.
The draft legislation includes proposals for death-in-service benefits payable from pension schemes to be excluded from IHT.
It is estimated the policy could cost as much as £60m when taking into account familiarising businesses and staff with changing process and updating software to facilitate the new IHT reporting requirements. Ongoing pension scheme administrators will need to share more information with the personal representatives about all benefits and there will be new obligations to communicate the potential tax consequences of decisions to members and their beneficiaries. Personal representatives will also face increased costs associated with their liability for reporting and paying IHT.
The policy paper and draft legislation can be found here.
