Financial services consultancy Broadstone has raised concerns around the value and control of lump sums from defined benefit pension schemes and death in service policies under new plans to make pensions subject to inheritance tax.
From April 2027, pensions will be added to the estate for IHT purposes as part of the government’s efforts to plug the £22 billion ‘black hole’ identified in public finances.
Broadstone said changes introduced in 2015, which have allowed for significant tax advantages on death benefits where the member is younger than 75 on death, have always appeared generous.
Many defined benefit schemes pay out lump sums on death but these are often by scheme design and part of the scheme’s rules rather than a form of wealth transfer. As such, Broadstone has called for these lump sums to continue to be exempt from inheritance tax.
Similarly, Broadstone believes death in service lump sums, often paid in respect of younger people experiencing a shock of early death and designed to help next of kin during a difficult period, should not fall into the IHT scope.
Both of the lump sums, if paid within two years of death, would be assessed against the Lump Sum and Death Benefit Allowance and are subject to income tax or a standalone special tax charge if paid later.
David Brooks, head of policy at Broadstone, said: “It is understandable that the Government is reforming the inheritance tax regime to ensure pensions are used for their primary purpose of providing income in retirement rather than enabling wealth transfer.
“However, we believe there are a few elements of the proposals that could be loosened, particularly where the primary purpose of lump sum payments is not for estate management. Tightening this regulation will create an IHT framework that ensures tax reforms are born by those with the broadest shoulders without unnecessarily penalising pension savers and their families in emotional and stressful circumstances.”
Brooks said he was also concerned about the impact on ‘common law’ partners who could also be treated unfairly compared to the current tax situation on death.
“We would urge the Government to consider updating the IHT tax system for the living circumstances of society,” he added.
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