New Budget Rules: How to Safeguard Your Pension from a 40% Tax Hit
What Has Changed
Following the Budget, for a select group of clients we took proactive steps to ringfence their tax-free cash within their pensions.
This was particularly relevant for those close to the maximum lump sum allowance of £268,275, based on the old lifetime allowance rules, which still apply despite the changes. Just to keep things confusing.
For those still contributing up to the £60,000 annual allowance, it made sense to ringfence what was already there and continue building a further fund from which another 25% tax-free amount can be taken in the future.
Importantly, no Money Purchase Annual Allowance (MPAA) was triggered in any of the cases handled, so everything remains in good standing.
Now, with the Chancellor’s confirmation that pensions will soon form part of the estate and be subject to inheritance tax, it is time to consider a comprehensive strategy to protect your entire pension fund.
The Asset Protection Trust
As an investment and financial adviser since 1989, I have worked with hundreds of clients, and this planning has always sat at the intersection of financial advice and estate planning.
In addition to our FCA regulated status, we have been qualified since 2011 and licensed, initially through APS Legal and Associates and more recently through Solidus, to write and arrange this type of business.
To ensure your pension does not fall into your taxable estate and become subject to a 40% IHT charge, it may be appropriate to ringfence your entire pension. This ensures it bypasses your estate on death and provides a lasting legacy for your loved ones, free from unnecessary tax erosion.
We have long ensured that Death in Service benefits are paid into Spousal Bypass Trusts to remove them from the estate. The same strategy now applies to pensions.
Why This Matters
If your pension or Death in Service benefits are included in your estate, those funds can become taxable at 40% IHT once they pass to your family.
Example: £1 million in pension and £1 million in Death in Service benefits
If left in your estate, £2 million could result in £800,000 lost to inheritance tax, leaving only £1.2 million for your loved ones.
The new rules also mean that many estates will likely exceed the £2 million Residential Nil Rate Band threshold. The RNRB provides an additional £175,000 per person on top of the standard £325,000 nil rate band, but exceeding this threshold creates significant tax liabilities.
The Numbers in Practice
Estate valued at £2.5 million
– Excess over £2 million: £500,000
– RNRB reduction: £250,000
– Remaining RNRB: £100,000
– Tax-free allowance: £750,000
– Taxable estate: £1,750,000
– IHT at 40%: £700,000
Estate valued at £5 million
– Excess over £2 million: £3 million
– RNRB fully lost
– Tax-free allowance: £650,000
– Taxable estate: £4,350,000
– IHT at 40%: £1,740,000
**Estate valued at £7 million
– Excess over £2 million: £5 million
– RNRB fully lost
– Tax-free allowance: £650,000
– Taxable estate: £6,350,000
– IHT at 40%: £2,540,000
The examples above are for illustrative purposes. Every situation is different and we can create a tailored solution that secures your wealth for future generations.
If you would like to understand how to protect your estate from the inheritance tax changes ahead, we are always happy to have that conversation.
Contact us today or call 0345 200 4041 to arrange a free consultation.
Originally Penned on 15 November 2024
