Why a knee-jerk reaction to Budget pension changes could cost you in retirement

In the build-up to Rachel Reeves’ Autumn Budget, rumours were rife, from a new flat rate of tax relief and Capital Gains Tax rises to the abolition of pension tax-free cash.

While the Guardian reported a “surge” in lump sum withdrawals in October, at Jane Smith Financial Planning we counselled caution.

The Budget certainly delivered some surprises, but we were proved right about tax-free cash as the rumours of its demise proved unfounded.

Just as a knee-jerk reaction on this issue could’ve proved damaging to your long-term retirement plans, so too might a hasty decision regarding Reeves’ announcements on pensions and Inheritance Tax (IHT).

Keep reading for a closer look at what was announced, when – and if – these changes might arrive, and why avoiding emotional decision-making is key.

Rule changes can be worrying but the greatest danger might come from knee-jerk reactions

As pre-budget rumours began to circulate, our advice was to stay calm and remain focused on your long-term goals. Retirees who failed to do so rushed into hasty cash withdrawals and then found themselves with a decision to make – to stick with their choice or use a cooling-off period to give the cash back, though the government has now announced that this would be an unauthorised payment with associated tax consequences.

Likewise, the rule changes to the IHT treatment of pensions (more on the specifics of which later), might have caused some panic among pensioners.

Among pre-retirees – and especially among unadvised pre-retirees – there might have been an inclination to seek creative solutions to the perceived problem. This could be dangerous.

Your plan is long-term. This helps your investment to ride out periods of short-term volatility but it also means that it’s robust enough to withstand external changes. If your end goal hasn’t changed, then it’s unlikely that your plan will need to.

Making hasty decisions now could see you backpedalling later, just like those who prematurely withdrew tax-free cash.

Changes to the IHT treatment of pensions could raise much-needed funds for the Treasury

Despite being dubbed the UK’s “most hated tax”, IHT applies to relatively few UK families. HMRC data from July 2024 confirms that the tax is paid by fewer than 1 in 20 estates. In recent years, though, the Treasury’s IHT receipts have been rising.

IHT is payable on the portion of a deceased’s estate that exceeds certain thresholds. These are the:

  • Nil-rate band
  • Residence nil-rate band.

The nil-rate band has stood at £325,000 since 2009. The residence nil-rate band, meanwhile, has been £175,000 since April 2020 (having been introduced in 2017).

In 2021, then-chancellor Rishi Sunak froze both thresholds to 2026. Jeremy Hunt later extended this freeze to 2028.

Rachel Reeves used her Autumn Budget to further extend the freeze to 2030. By then, the nil-rate band will have remained static for more than a decade.

Over the same period, though, your investments have grown, your wages have risen, and the value of your property has continued to increase. This has had the effect of pushing more and more families into the IHT net.

For evidence of this, see the Treasury’s recent IHT receipts. IFA Magazine confirms that receipts for October 2024 reached £776 million.

Annual IHT take is also rising:

  • £6.1 billion in 2021/22
  • £7.1 billion in 2022/23
  • £7.5 billion in 2023/24.

The 2024/25 is set to see IHT receipts smash through the £8 billion barrier.

The chancellor’s pension changes are aimed at further increasing this tax take, but the advice could help mitigate their impact… if the changes even arrive.

Reeves plans to move pensions into the IHT net from April 2027   

In her Budget announcement, Reeves confirmed that she will bring unused pension funds and death benefits into a person’s estate for IHT purposes from 6 April 2027.

The move, she said, would close the “loophole” that gives pensions preferable IHT treatment.

That so-called “loophole” means that under current rules, unused pension funds can be passed to a chosen beneficiary tax-free in some instances.

On death before age 75, the whole of your unused pension fund can usually be passed to your chosen beneficiary tax-free. While on death after the age of 75, unused pension funds can still be passed to your chosen beneficiary, but they will pay tax on any withdrawals they take at the highest Income Tax rate they pay.

It’s worth noting too, that a pension beneficiary is nominated via your provider, using an “expression of wish” form, rather than through your will.

This will no longer be the case from April 2027, when the new rules are due to come into effect. In the meantime, it’s important not to panic. Remember:

  • Your pension is incredibly tax efficient so continue to make the most of it.
  • Your estate planning doesn’t begin or end with your pension and neither does our tax advice.
  • We’re on hand to help so get in touch if you need reassurance or if there’s anything you’d like to discuss.

Finally, remember that these changes are still two years away, which is a long time in politics.

Get in touch

If you’re looking for an independent financial adviser in Milton Keynes or Olney, look no further. At Jane Smith Financial Planning, we’ve been helping clients for 30 years, so contact us at info@janesmithfinancial.com or call 01234 713131 to see what we can do for you.

Please note

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

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