Pensions have traditionally sat outside of your estate for Inheritance Tax (IHT) purposes, which has often made them a key tool for parents looking to pass on wealth to their children tax-efficiently.
However, from April 2027 pensions will form part of your taxable estate and therefore may be subject to Inheritance Tax. As a result, it is becoming increasingly important to understand how your pension could be treated when you pass away, and what this may mean for the value ultimately passed on to your children.
In this article, we explain how pensions can be passed on to your children, how Inheritance Tax may apply, and the key considerations when thinking about your pension as part of your wider estate planning.
Can my children inherit my pension?
Yes, your children can inherit your pension, and you can usually nominate:
- One or more children.
- Other family members.
- A spouse or partner.
- Other individuals or trusts (depending on the scheme).
- Or a combination of beneficiaries.
If your pension is in drawdown (a way of withdrawing money from your pension while leaving the rest invested), your children may be able to choose how they receive the funds, such as taking a lump sum, drawing an income over time, or leaving the funds invested.
However, reviewing your pension arrangements is essential to help ensure your children benefit from having these options as some older pension schemes may not offer drawdown.
How do I ensure my children receive my pension?
To indicate that you would like your children to receive your pension, you will need to complete an Expression of Wish form with your pension provider.
This is because unlike other assets pensions are usually held separately from your estate. This means they are not typically distributed through your Will, but are instead passed on at the discretion of the pension provider, based on your nominated wishes.
Completing an Expression of Wish form allows you to:
- Nominate your children as beneficiaries.
- Set out how you would like the pension to be split between them (if applicable).
- Update your wishes as your circumstances change.
If you have more than one pension, it is important to complete a form for each provider.
While these nominations are not legally binding, they are a key factor providers will consider when deciding who receives your pension. Therefore, you may also benefit from including details of your executors (the individuals responsible for administering your estate and carrying out the instructions in your will).
How is my pension taxed when passed to my children?
Putting aside the Inheritance Tax payable from April 2027, the tax treatment of withdrawals taken by your children from your pension will depend largely on your age at the time of death.
If you pass away before age 75
Your pension can typically be passed on to your children who can take it free from Income Tax, provided it remains within the pension wrapper and certain conditions are met.
If you pass away after age 75
Your children can still inherit your pension, but any withdrawals they make will usually be subject to Income Tax at their own marginal rate.
How could Inheritance Tax impact my pension?
Pensions currently sit outside of your estate for Inheritance Tax purposes, meaning they are not currently included when calculating your Inheritance Tax liability.
However, from April 2027 any unused pension funds will be included within your estate for Inheritance Tax purposes.
This change represents a significant shift as pensions have long been viewed as one of the most tax-efficient ways to pass on wealth to your loved ones.
Given the complexity and evolving nature of the rules around pensions, seeking professional advice has become increasingly important to help ensure your pensions fit into your overall estate planning with the upcoming changes in mind.
Should I take my 25% tax-free lump sum to pass to my children?
When accessing your pension during your lifetime, you can typically take up to 25% as a tax-free lump sum (known as “crystallising” your benefits). The total amount you can take tax-free is typically capped when your 25% reaches the Lump Sum Allowance (LSA) which is currently £268,275.
If 25% of your pension exceeds the LSA (£268,275 or above), then £268,275 will be the maximum you can withdraw before tax is due. In contrast, if 25% of your pension is less than the LSA (e.g. £268,274 or below) then 25% will be the maximum you can withdraw. Any amount taken above the LSA will typically be taxed at your marginal rate of Income Tax.
At first glance, it may seem beneficial to withdraw this amount and pass it on to your children during your lifetime. However, if you withdraw funds from your pension the money moves outside of the pension wrapper and may then form part of your estate and become subject to Inheritance Tax.
What if I intend on gifting these funds to my children?
The gifted funds may fall outside of your estate for Inheritance Tax purposes provided that you survive for seven years after making the gift (known as the seven-year rule) and gift in line with HMRC’s rules on gifting.
However, if you pass away within seven years, the gift may still be taken into account when calculating Inheritance Tax, depending on the total value of your estate and any available allowances.
Conversely, funds kept within a pension:
- Can typically be transferred directly to your children from the pension provider.
- May allow your children to choose how they take the money (e.g. as a regular income or a lump sum).
- May be subject to different tax treatment depending on whether you die before or after age 75.
It is also important to be aware that your children do not receive a separate 25% tax-free lump sum. This means that once funds are withdrawn, the tax advantages of the pension wrapper may be reduced.
Because of this, deciding whether to access your pension and when, is often a key consideration when thinking about passing wealth to children.
Key considerations when passing your pension to your children
When thinking about your pension as part of your estate planning, it can help to consider:
- Who you have nominated as beneficiaries, and whether this is up to date.
- How your pension fits alongside your other assets, such as property and savings.
- Whether to draw from your pension or leave it invested, depending on your needs and intentions.
- How Inheritance Tax may apply, both now and under future changes.
- When your children may need access to the funds, and in what form.
Taking a joined-up approach can help ensure your pension supports both your retirement and your longer-term goal of passing on wealth to your children.
How can Cooper Associates Wealth Management help?
Pensions can be a valuable way to pass on wealth to your children, however the amount that they receive and how it is taxed will depend on a range of factors.
Our team of expert financial advisers will take the time to understand your unique circumstances and build a bespoke financial plan that gives you clarity, confidence and peace of mind that your wealth will be passed on as you intend.
We will also keep you informed of any changes to legislation that could impact your estate planning strategy and can recommend adjustments to your portfolio to help ensure your wealth remains protected and ready for your children.
Get in touch today to arrange a fee‑free, no‑obligation consultation and discover how we can help you manage your wealth and plan for the future with confidence and clarity.
* The value of a pension with St. James’s Place will be directly linked to the performance of the funds selected and may fall as well as rise. You may get back less than the amount invested.
The levels and bases of taxation, and reliefs from taxation, can change at any time and are dependent on individual circumstances.
