- If you die before 75, your beneficiaries can currently draw income from your pension tax free
- Tax office proposes changing the rules as part of aboloishing the lifetime allowance
Those who inherit a pension pot may have to pay income tax as early as next year, if a policy proposal published earlier this week by HMRC goes through.
At the moment, when somebody dies before turning 75, beneficiaries of a pension pot are exempt from inheritance tax and can draw income without incurring income tax.
However, an HMRC policy paper has proposed that an uncrystallised pension inherited from someone younger than 75 would "no longer be excluded from marginal rate income tax” of the inheritor from 6 April 2024.
Pensions have been considered a very efficient vehicle for inheritance planning. This is both because they are generally free of inheritance tax and can be free of income tax if the person dies before the age of 75.
The HMRC paper is part of a series of documents released covering changes to the lifetime allowance (LTA), which is due to be formally abolished from 2024. That measure was announced by chancellor Jeremy Hunt in his Spring Budget earlier this year, but for the current tax year only the LTA tax charge was scrapped.
The change to the treatment of pension pots at death was included in the paper unexpectedly. Steve Webb, former pensions minister and now partner at pensions consultancy LCP, said this was a big change that should have been properly discussed.
He added: “For the last eight years, people have known that if a loved one died under the age of 75, they could inherit an untouched pension pot free of all tax. The money could sit in a drawdown account, being invested and growing, and would be a source of tax-free income whenever needed.
“It would be totally unacceptable to make such a big change ‘through the back door’. If ministers plan to remove this pension tax break, they should announce their plans publicly and have them properly debated."
A HM Treasury spokesperson said: “We look forward to working with stakeholders over the coming weeks to help us craft the legislation which will ensure that our historical pensions tax cut delivers the right results for savers and the economy.”
