Inheritance Tax and Pensions: What Your Beneficiaries Pay

For many families, the biggest tax question around pensions is not “How much tax did the saver pay?” but “What will the people left behind actually pay?” In the UK, that answer depends on three things above all: the type of pension, the age at death, and whether the rules in force are today’s rules or the planned changes due from 6 April 2027 .

Get those points straight, and the rest becomes far easier to follow.

At the moment, pensions often sit in a more favourable position than other assets for inheritance tax purposes.

But “often” is not “always”, and what beneficiaries pay can include income tax even where inheritance tax does not apply.

That distinction matters.

A pension can be outside the estate for inheritance tax, yet still create an income tax bill for the person inheriting it.

The key practical rule is this: with pensions, the tax paid by beneficiaries is usually driven less by the size of the pot and more by the death-benefit rules attached to that particular scheme.

First principle: inheritance tax and pension tax are not the same thing

Photo by Nataliya Vaitkevich on Pexels

When people say “Is my pension taxed when I die?”, they often mix up two separate tax regimes:

• Inheritance tax (IHT) — usually charged on a person’s estate when they die.
• Income tax on pension death benefits

  — which may be paid by the beneficiary when they take money from an inherited pension.

That distinction is crucial because under current UK rules, many pension pots are not part of the deceased’s estate for IHT.

But beneficiaries may still pay income tax when they draw the money, especially if the member died aged 75 or over.

So if you want to know what your beneficiaries pay, the first question is not simply “Will there be inheritance tax?” It is:

1. Was the pension inside or outside the estate?

2. Was death before or after age 75?

3. Was it a defined contribution pension, a defined benefit scheme, or an annuity?

4. How is the money paid out — lump sum, drawdown, or scheme pension?

How it works now: the current UK position

Under the rules applying today, most defined contribution pensions — such as personal pensions, SIPPs and many workplace money purchase schemes — are normally outside the estate for inheritance tax, provided the scheme administrator or trustees have discretion over who receives the death benefits.

That means, in many cases, no inheritance tax is due on the remaining pension pot.

However, beneficiaries may still pay income tax depending on the age of the deceased:

• If death is before age 75:

  benefits can usually be paid tax-free to beneficiaries, provided the scheme pays or designates them within the relevant two-year period.

• If death is at 75 or older:

  beneficiaries usually pay income tax at their own marginal rate when they take money.

This is why two families inheriting the same pension value can face very different outcomes.

A £300,000 inherited pension is not automatically tax-free or taxable; the age-at-death rule changes everything.

What beneficiaries pay under current rules

Here is the practical position for the main scenarios most UK families encounter.

Defined contribution pensions: where most inheritance tax questions arise

If you have a SIPP, a personal pension, or a workplace defined contribution pension, this is where the tax planning usually matters most.

Under current rules, these pensions have been widely used as an estate-planning tool because they often sit outside the estate for IHT.

By contrast, money held in a bank account, ISA or investment portfolio generally forms part of the estate unless another exemption applies.

That difference is why some retirees choose to draw from ISAs and other taxable assets first, leaving pensions untouched for longer.

This is not always right, but the logic is simple: pension funds have often had more favourable death-tax treatment than other assets.

For beneficiaries, the practical outcomes are:

If death is before 75

If the pension scheme pays or designates death benefits within two years of being notified, the beneficiary can often receive:

• a lump sum, or

• beneficiary drawdown, or

• a dependant’s pension

with no income tax to pay.

This can be extremely valuable.

A beneficiary who inherits a pension pot of £200,000 from someone who dies aged 74 may be able to draw the whole amount tax-free, assuming the scheme offers the relevant options and the conditions are met.

If death is at or after 75

The inheritance tax position may still be favourable under current rules, but the income tax position changes.

The beneficiary generally pays income tax at their own rate on withdrawals from inherited drawdown or pension income.

So if an adult child already earns enough to be a higher-rate taxpayer, inherited pension withdrawals could be taxed at 40%.

If they are an additional-rate taxpayer, the rate could be 45%.

If they have low other income and withdraw modest amounts, they may pay basic-rate tax or potentially less, depending on their full tax position.

That is why beneficiary drawdown can be much more efficient than a single lump sum.

It allows the beneficiary to spread withdrawals across tax years rather than pushing themselves into a higher tax band all at once.

Who pays the inheritance tax: the estate or the beneficiary?

A common misunderstanding is that the beneficiary always “pays inheritance tax”.

In legal terms, inheritance tax is usually charged on the estate, not on the individual beneficiary.

The estate settles the tax before assets are distributed.

In practical terms, though, beneficiaries still bear the cost because they inherit less.

This distinction matters even more if pensions are brought into the estate from 6 April 2027 , as has been announced by the government.

If that change takes effect as proposed, pension funds and death benefits may become part of the estate for IHT, potentially using up the nil-rate band of £325,000 and, where relevant, interacting with the residence nil-rate band.

At that point, the question “what your beneficiaries pay” may become a mix of:

• IHT reducing the amount available overall, and

• income tax still applying when inherited pension money is later drawn.

That is the possible double layer families need to watch.

The planned 2027 change: why this article matters more now

The government has announced plans to bring most unused pension funds and death benefits into the value of the estate for inheritance tax from 6 April 2027.

At the time of writing, this is a planned reform rather than the current position, and the detailed legislation and administration are still being worked through.

For readers, the practical point is this: today’s favourable IHT treatment may not remain in place .

If the change comes in broadly as announced, beneficiaries could be affected in two separate ways:

1. Inheritance tax on the estate

   — pension value may increase the taxable estate above available allowances.

2. Income tax on withdrawal

   — if the inherited pension remains taxable on access, beneficiaries may still pay tax when taking money.

That is why families should stop thinking of pensions as automatically “free of inheritance tax”.

That may be true under current rules in many cases, but it is no longer safe as a long-term assumption.

How different beneficiaries can be affected

The tax bill can vary sharply depending on who inherits.

Spouse or civil partner

A surviving spouse or civil partner will often be the main beneficiary.

Under current pension rules, they may be able to continue with inherited drawdown or receive a dependant’s pension.

Their tax position then depends on the deceased’s age at death and the route the scheme offers.

For inheritance tax generally, transfers between spouses or civil partners are often exempt.

But if pensions are brought into the estate for IHT, the interaction with spouse exemption and the wider estate will need careful review.

Adult children

Adult children often face the biggest income tax risk after age 75 because they may already be in work and in a higher tax band.

A large inherited pension withdrawal can push them into paying more tax than expected.

Example: if a son inherits a pension after the parent dies at 78 and takes a large one-off withdrawal while earning a decent salary, part or all of that withdrawal may be taxed at 40% or 45%, depending on his other income.

Minor children or vulnerable beneficiaries

These cases can be more complex.

Scheme rules, trust arrangements and the ability to manage inherited pension assets all matter.

Specialist financial and legal advice is often sensible here, particularly where vulnerable person trusts or long-term control of funds is under consideration.

Defined benefit pensions: what beneficiaries usually pay

Defined benefit schemes work differently.

There is often no individual pot to pass on.

Instead, the scheme rules may provide:

• a spouse’s or civil partner’s pension,

• a dependant’s pension,

• a limited children’s pension, or

• a lump sum death benefit in some cases.

For beneficiaries, the most common outcome is an ongoing survivor’s pension.

That income is generally taxable as pension income in the recipient’s hands, just like other pension income.

So with DB schemes, the question is usually less about inheritance tax on a pot and more about whether a survivor’s pension exists, how much it is, and who qualifies under the scheme rules.

Adult independent children may get nothing at all from many schemes.

This is why you should never assume “my pension will go to the children” if most of your retirement provision is in a final salary or career average scheme.

What about annuities?

Annuities depend entirely on the options selected when they were bought.

Some stop at death with nothing payable.

Others include:

• a spouse’s or dependant’s pension,

• a guarantee period, or

• value protection or lump sum death benefits.

Where a survivor’s annuity income is paid, it is usually taxable as the recipient’s income.

There is generally no flexible inherited pension pot in the way there may be with a SIPP or drawdown plan.

Again, this is a product-by-product issue.

Beneficiaries should ask the annuity provider exactly what death benefits apply.

State Pension: important, but usually not inheritable as a pot

State Pension often gets dragged into these conversations, but it is not a private pension fund.

There is usually no pot that passes to beneficiaries on death.

Some people may inherit certain elements linked to older State Pension arrangements, protected payments or pension sharing, depending on age and circumstances.

But for most families, State Pension is not where inheritance tax or pension-pot death tax planning sits.

It is also separate from National Insurance contributions.

NI builds entitlement to State Pension during life; it does not create an inheritable fund for beneficiaries after death.

Checklist: what to review if you want to reduce what beneficiaries pay

• ✅ Check every pension nomination or expression of wish form is current.

• ✅ Confirm whether each pension is defined contribution, defined benefit or an annuity.

• ✅ Ask your provider what death-benefit options are actually available to beneficiaries.

• ✅ Consider whether beneficiaries are likely to be basic-rate, higher-rate or additional-rate taxpayers.

• ✅ Review your will alongside pension nominations, not separately.

• ✅ If your estate may exceed the nil-rate band, factor in the proposed 2027 IHT changes now.

• ❌ Do not assume every pension is outside the estate forever.

• ❌ Do not assume adult children can inherit a DB pension in the same way as a SIPP.

• ❌ Do not assume taking inherited pension money as one lump sum is always the lowest-tax option.

• ❌ Do not leave old ex-spouses or outdated dependants on paperwork and expect trustees to ignore it.

Common mistakes that increase the tax bill for beneficiaries

1.

Not updating nominations after marriage, divorce or children

Pension providers and trustees rely heavily on nomination forms.

If your paperwork points to the wrong person, delays and disputes can follow.

That can also affect whether death benefits are paid efficiently.

2.

Treating all pensions the same

A SIPP, a Local Government Pension Scheme pension, an NHS Pension, and an annuity can all have completely different death-benefit structures.

Beneficiaries pay differently because the products themselves work differently.

3.

Ignoring the beneficiary’s own tax position

For post-75 deaths, the beneficiary’s own income tax band matters.

Sometimes a widow, widower or adult child can save significant tax by phasing withdrawals rather than taking cash immediately.

4.

Failing to plan for the 2027 IHT reforms

Even though the new rules are not yet in force, families with larger estates should model the impact now.

If pension wealth becomes subject to IHT, the old “leave the pension untouched” approach may need rethinking.

5.

Assuming annual allowance or pension contribution rules solve this

The annual allowance affects how much can be contributed tax-efficiently during life.

It does not determine the tax treatment of death benefits for beneficiaries.

The issue here is inheritance tax and beneficiary tax, not just contribution planning.

Where to get reliable UK guidance

This is one area where the detail matters, so it is worth using proper UK sources rather than relying on forum folklore.

• MoneyHelper

  offers free, impartial guidance on pensions, tax and retirement options.

• FCA

  -regulated financial advisers can help if you need personal recommendations, particularly where inherited drawdown, IHT exposure or vulnerable beneficiaries are involved.

• The Pensions Regulator

  oversees work-based pension regulation, though individual benefit queries usually go first to the scheme or provider.

• Your own scheme administrator or provider should confirm the exact death-benefit options and whether beneficiary drawdown is available.

For larger estates, coordinating an FCA-regulated financial adviser with a solicitor who understands wills, trusts and inheritance tax is often the best route.

Pension nominations and wills do not do the same job; they need to work together.

A simple way to think about it

If you want the shortest practical version of all this, it is this:

• Current rules:

  many defined contribution pensions are outside the estate for IHT, but beneficiaries may pay income tax if death is after 75.

• Defined benefit pensions:

  beneficiaries usually receive a taxable survivor’s pension if the scheme provides one, not an inheritable pot.

• Annuities:

  tax depends on the annuity’s death-benefit terms.

• State Pension:

  usually no inheritable pot.

• From 2027, potentially:

  pensions may also become part of the estate for inheritance tax, changing the maths significantly.

Final thought

The phrase “pensions are free of inheritance tax” was always too simplistic, and it is becoming less useful by the year.

For beneficiaries, the real question is not whether a pension is “tax-free”, but which tax applies, when, and to whom .

Today, many inherited defined contribution pensions still sit outside the estate for IHT, which can be a major advantage.

But if the person dies after 75, beneficiaries often pay income tax on withdrawals.

And if the planned reforms take effect from 6 April 2027 , inheritance tax may enter the picture as well.

For families who want to pass on pension wealth efficiently, the practical priorities are clear: know what type of pension you have, keep nominations current, understand the age-75 rule, and review your estate plan before the law changes rather than after.

That is how you improve the odds that more of your pension goes to your beneficiaries, and less to HMRC.