How inheritance tax on pensions could be about to make the under-40s trillions richer

Next year, a major rule change will mean thousands of families will start owing tax when they inherit their loved ones’ pensions.

Inheritance tax (IHT) is sometimes referred to as Britain’s “most hated tax” and it will soon affect more people.

From April 2027, previously exempt pension pots will be brought into the calculation of a person’s estate – which includes their home, savings and other assets – for IHT purposes.

The change is expected to pull thousands of families into the IHT net who would previously have been able to pass on their assets tax-free.

As families try to avoid part of their financial legacies going straight to the taxman, experts expect – and are already seeing – a big shift in how wealth is passed down, which could have a significant impact on the economy.

From next April, 10,500 additional estates are expected to face an IHT bill, while around one in 10 deaths could trigger a charge by the end of the decade.

This is because, as well as this change, the threshold at which the 40 per cent tax starts to be owed – £325,000 – and the extra tax-free allowance people get on their home – £175,000 – have been frozen until at least April 2031.

Wealth management firms across the UK say they have seen a surge in retirees gifting large sums to their children – and increasingly to their grandchildren – in an effort to reduce the bills on their estates.

The gradual transfer of assets built up by older generations, dubbed “the great wealth transfer”, has been anticipated for years. Economists have predicted that an estimated £7trn will pass between generations by 2050.

But experts say this transfer has been accelerated by bringing pensions into the IHT net. Many families have built up sizeable pension pots as a way to pass on money tax-free – an option being removed from next April – and are now looking to transfer as much of this wealth as possible before they die.

If you gift money more than seven years before your death, there is no IHT charged to the people who receive it. Gifts given less than seven years before death only face a tapering tax rate – which is between 8 per cent and 40 per cent.

And in many cases, families are choosing to skip a generation and give money directly to grandchildren, because their own children have already accumulated wealth.

This means many millennials and Gen Zs – born in the 1980s, 1990s and 2000s – could be in line to receive a big slice of the pie.

So what will the transfer look like, and what does it mean for society as a whole?

What could an accelerated wealth transfer mean for the economy?

Wealth managers say beneficiaries of these significant gifts are typically prioritising house deposits, education costs, childcare and clearing mortgage balances or other debts.

If gifting accelerates on a wider scale after IHT is imposed on pensions, experts say it could have a significant impact on the economy. For example, it could help more people get on the housing ladder earlier or allow some to opt for more flexible careers.

Preksha Shah, investment specialist at wealth manager St James’s Place, said: “An acceleration in the great wealth transfer could have meaningful macroeconomic effects, though these are likely to be unevenly distributed.

“Earlier access to wealth may influence labour-market behaviour, with some recipients opting for greater career flexibility, reduced labour participation, or increased entrepreneurial risk-taking.

Wealth transfers can also intensify demand for assets such as housing.”

However, there are concerns that the acceleration of this transfer could widen inequality, particularly in the housing market, as the benefits will largely flow to those from already wealthy families.

This means more people from wealthy backgrounds could buy property sooner and become less exposed to interest rate changes, while lower-income families will remain vulnerable to higher borrowing costs and face greater competition in the housing market.

Tracey Dixon, owner of Pure Mortgage and Protection, added: “Earlier inheritance gifting could become one of the biggest drivers of inequality in the UK housing market over the next decade.

“In some parts of the market, particularly among first-time buyers, this could fuel higher prices and make competition even tougher for buyers without family support.”

Shah added that an early wealth transfer could also weaken monetary policy, as wealthier households tend to be less sensitive to interest rate changes.

Bank of England interest rate hikes – which tend to send mortgage rates higher – are used as a tool to calm inflation, but if people don’t have mortgages, they’re likely to be less effective.

The balancing act

While the wider economic effects could be significant, the most immediate challenge for families is how to balance giving money away now with ensuring they have enough to live on later – particularly if they need care in old age.

Families must also decide whether it makes sense to skip a generation, prompting many to turn to professional advisers for help.

Rachel Griffin, an estate planning expert at Quilter, said: “The main risk is that clients give away too much too soon. IHT planning has to be balanced against retirement income, care costs and longevity.

“There are also family risks. Early gifts can create tension if one child receives help and another does not, or if grandparents bypass children and give directly to grandchildren.”

‘I’m trying to balance gifting to my three adult kids with saving for care’

Janie Roxburgh, 61, works four jobs and has built up significant savings to support herself in retirement. But following the IHT changes, she is now working with a financial adviser to figure out how to gift money to her children to help them with house deposits.

Janie, from Dorset, runs language teaching classes and a divorce coaching business, alongside clerical work and subtitle editing. She has been saving and investing as much of her earnings as possible to ensure she “isn’t a burden” later in life.

She is also renovating her property in the hope of increasing its value for her three adult children when she dies.

She is now working with advisers at Octopus Money to balance her own retirement and potential care needs with her desire to give away as much as possible now.

“I want to be able to help my children with big things like house deposits. The balancing act is challenging – I’ve looked into care costs and they are alarming,” she said.

How is the wealth transfer being managed?

As more wealth is handed down earlier, financial advisers say another big challenge will be ensuring younger beneficiaries know how to manage large sums of money they may not have expected to receive for decades.

Advisers are increasingly bringing children and grandchildren into planning conversations, which they say could help more young people receive professional support earlier in life and improve their long-term finances.

However, Stuart Dodson, chief executive of wealth manager True Potential Wealth Management, said a key concern is that younger people may turn to social media for guidance on how to manage their inheritance, increasing the risk of poor financial outcomes.

“A noticeable trend is the earlier and broader involvement of the next generation in financial advice conversations,” he said. “Clients are increasingly open to bringing children, and in some cases grandchildren, into these discussions at a much earlier stage.

“However, the threat from finfluencers is very real. A high proportion of younger investors now consume financial content via social media, and many trust it sufficiently to act on what they see. Financial advisers need to meet the next generation where they are and build trust early.”

There are also concerns that the growing involvement of younger beneficiaries in professional advice could widen wealth inequality, as those inheriting large sums receive tailored support while lower-income households continue to receive little or none.

In response, many wealth managers are developing lower-cost services aimed at younger clients with smaller pots of wealth, while tailoring their advice to engage the next generation. Some are also using artificial intelligence (AI) to help provide advice at scale, which they say could help narrow the gap.

New research on the financial advice market from Dynamic Planner, shared with The i Paper, found 54 per cent of firms are now using or exploring lower-cost or flat-fee propositions to target lower-income clients, while 41 per cent are introducing cheaper or free “guidance” services.

Ben Goss, CEO at Dynamic Planner, said: “AI and digital tools are already enabling firms to serve more clients, more efficiently. Done well, this shift means that for the first time, truly personalised, trusted financial advice is within reach for millions more people.”

Experts say the key challenge over the next few years will be managing this transfer carefully, ensuring that beneficiaries receive the right support while helping families balance their own long-term needs with the desire to give money to younger generations.