What happens to your pension when you die (April 2027 update)

If you want to know what happens to your pension when you die, who can inherit it, and what you need to check now, this guide explains it in plain terms, including an important change to the rules from April 2027.

If you have a defined contribution pension, the rules around what happens to it when you die are changing. From April 2027, unused pension funds will now form part of your estate for inheritance tax purposes. This is one of the most significant changes to pension and estate planning in years, and it affects those whose estates breach the Inheritance Tax threshold.

If you have a Defined Benefit (Final Salary) Pension, the rules are different and slightly more complex. In this article, we’re focusing purely on defined contribution pensions, or visit what happens to your Defined Benefit pension when you die.

Who inherits your pension when you die?

Your pension does not automatically pass to your spouse, your children, or anyone else by default. It is paid to whoever you have named as your beneficiary on the pension scheme’s records.

• You choose your beneficiary. This can be a spouse or civil partner, a child, another family member, a friend, or a charity. There is no requirement to be married, and no limit on who you can choose.
• Your nomination overrides your will. Even if your will says something different, the pension provider will normally pay out according to the beneficiary nomination held on file.
• You can usually name more than one beneficiary. Most modern pensions and SIPPs let you split your pension between several people in whatever proportions you choose.
• A defined contribution pension (including a SIPP) can be passed on. This applies whether you die before or after retirement, and whether or not you have started drawing an income from it.
• A defined benefit (final salary) pension works differently. It typically pays an ongoing income to a spouse, civil partner, or dependent child, rather than a lump sum, and who can receive it is far more restricted. We cover this separately in our guide to what happens to your final salary pension when you die.

Check your beneficiary nomination, especially on older pensions

Pension beneficiary nominations are treated as separate from your will. People often update their will after a divorce or remarriage but forget that an old pension, sometimes from a job they left years ago, still names a previous spouse or partner.

• If you have divorced and remarried, check that every pension you hold reflects your current wishes, not your previous marriage.
• If you want your pension to go to someone other than your current spouse, your nomination needs to say so explicitly.
• If you have several pension pots from different jobs over the years, check each one individually. They will not update automatically just because you have told one provider, or updated your will.

What tax applies when a pension is inherited?

Two different taxes can apply to an inherited pension: income tax on withdrawals, and, from April 2027, inheritance tax on the value of the fund itself. They work differently and it is worth being clear on both.

Income tax (unchanged)

• Died before age 75: your beneficiary can normally draw down the inherited pension free of income tax.
• Died at age 75 or older: withdrawals are taxed as income at your beneficiary’s own marginal rate.
• This income tax treatment is not changing and applies regardless of the inheritance tax position.

Inheritance tax (changing from April 2027)

Inheritance tax is charged on the total value of someone’s estate — their property, money and possessions — when they die. Whether it applies depends on the size of the estate and who inherits it.

• Left to a spouse or civil partner: still exempt from inheritance tax, regardless of value. This is unaffected by the April 2027 changes.
• Left to anyone else (adult children, other family, friends): from April 2027, the value of the pension will count towards your estate, and inheritance tax may be due at 40% on the value above your available nil-rate band.
• Combined effect for over-75 deaths: inheritance tax and income tax can both apply to the same pension fund. We explain why this matters below.

The basic rules:

• Everyone has a tax-free threshold of £325,000 (the nil-rate band). Anything below this is exempt.
• Anything left to a spouse, civil partner, charity or community amateur sports club is exempt regardless of value.
• If you leave your home to your children or grandchildren, your threshold increases to £500,000.
• Anything above the applicable threshold is taxed at 40%.

For married couples and civil partners, any unused threshold passes to the surviving spouse on the first death. This means a couple where one partner leaves everything to the other can potentially pass on up to £1 million to their children before inheritance tax becomes due — £500,000 each, once the residence nil-rate band is included — though this depends on the size and composition of the estate. Visit gov.uk for more details on Inheritance tax.

Why the over-75 rule matters more from April 2027

The income tax rule, on its own, has always meant that pensions inherited from someone who died at 75 or over are taxed as income. From April 2027, that rule sits alongside inheritance tax rather than instead of it.

• A pension fund inherited from someone who died at 75 or over, and left to a non-spouse beneficiary, may now be assessed for inheritance tax on the way into the estate.
• The beneficiary may then pay income tax on withdrawals from what is left, at their own marginal rate.
• For a large pension pot, this combination can produce a materially higher effective tax rate than either charge would suggest on its own.

What stays the same for married couples and civil partners

For most married couples and civil partners, the April 2027 change will only become relevant on the second death.

• Assets left to a surviving spouse or civil partner, including pension funds, remain exempt from inheritance tax regardless of value.
• Combined with the nil-rate band and residence nil-rate band, a married couple can typically pass on up to £1 million between them before inheritance tax becomes due, before even considering pension wealth.*
• It is usually only when the second spouse dies, and the full estate passes to the next generation, that the new pension rules are likely to apply.

*N.B. Tapering applies to estates over £2 million. Do check any tax planning with your accountant or tax advisor.

More work for your executors

Because pension funds will now count towards the taxable estate, executors have new responsibilities.

• Obtain a valuation of every pension you held from each provider.
• Report these values to HMRC as part of the estate’s inheritance tax return.
• Do this for every pension pot separately, if you held more than one.

If you have several old pension pots from previous jobs, this is a meaningful amount of extra work for whoever you have named as executor. It is worth telling them now, and considering whether consolidating old pension pots would simplify things for them.

Expect delays in releasing pension funds

The pensions industry asked the government for a longer lead-in period before these changes take effect, to build the systems needed to handle the new reporting requirements. That request was not granted.

• Expect longer delays in pension funds being released to beneficiaries after a death.
• Providers may need confirmation from HMRC or the executor before funds can be released, a step that does not exist under the current rules.
• This is likely to affect families at exactly the point they most need access to the money.

If you are relying on a pension being available quickly to support a surviving spouse or dependants, it is worth discussing with us whether life insurance (paid out quickly when held in an appropriate trust) or cash savings should sit alongside your pension as part of a more resilient plan.

A word of caution: please do not make rash decisions

Some people are responding by drawing down pension funds faster than they need to, or making large cash gifts, to reduce a future inheritance tax bill. This can be sensible when properly planned. It is often a rushed decision that creates a different, and arguably worse, problem.

• A significant proportion of people approaching retirement are already not saving enough to fund the retirement they want.
• Years of house price growth mean more estates cross the inheritance tax threshold than in the past, often without the homeowner feeling any wealthier day to day.
• This creates pressure to act on a tax that may only ever affect the second death of a married couple, decades away, while the real and immediate risk is running out of money in your own retirement.

Before drawing down a pension early or making a substantial gift, ask yourself: would I make this decision if inheritance tax did not exist? If the honest answer is no, that is usually a sign the decision is being driven by tax avoidance rather than sound planning, and it deserves a closer look first.

What happens to my private pension if I die before State Pension Age

Your personal pension is not linked to your State Pension and is covered by different rules. You can leave your private pension to anyone you choose as a ‘named beneficiary’ when you die. This includes if you die before your state pension age. If you have a defined contribution pension (pension pot) that you have built up, it can be passed on.

If you’ve accessed your tax-free cash, or any part of your pension pot before you’ve officially retired, whatever is remaining in your pension pot can be passed on when you die.

Planning options worth understanding

Gifts from surplus income

The gifts from normal expenditure out of income exemption allows regular gifts, such as contributing to grandchildren’s school fees or an adult child’s ISA, to fall outside your estate immediately, with no seven-year wait.

• Gifts must come from genuine surplus income, not capital.
• Gifts must be regular and part of a sustainable pattern, not a one-off.
• Gifts must not reduce your own standard of living.
• HMRC scrutinise these claims closely after death, so good record-keeping while you are alive matters. This is exactly the kind of strategy that benefits from proper cash flow modelling now.

Life insurance

If you have financial dependants, a life insurance policy written into an appropriate trust can provide for them quickly without adding to a future inheritance tax bill. This is often simpler than restructuring pension or investment assets.

Trusts and more complex structures

More sophisticated trust structures can shelter wealth from inheritance tax, but they tend to be expensive to set up and maintain and are not suitable for everyone. They are worth exploring only once the simpler options above have been considered first.

A related development: rights for unmarried couples

Separately, the government has launched a consultation on strengthening financial rights for unmarried, cohabiting couples, including a proposal to give bereaved unmarried partners automatic rights to inherit if a partner dies without a will.

• This is a consultation, not a change in law.
• It must pass through Parliament, including the House of Lords, before anything is finalised.
• Nothing has changed yet for unmarried couples’ inheritance rights.

For unmarried couples, the position today is unchanged: there is no automatic right to inherit a partner’s pension or other assets without a valid will or a correctly completed pension beneficiary nomination. This remains one of the most important reasons to keep your will and pension nominations up to date, and to take both financial and legal advice.

2020 Financial provides financial advice. We do not provide legal advice on cohabitation rights, wills, or intestacy. Where a client’s situation touches on these areas, we would recommend they also speak to a solicitor.

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