How savers are protecting their pensions from Labour's inheritance tax grab

Telegraph

10-07-2025

Since 2015, private pensions have been a sensible way to get around Britain's most hated tax.
During his time as chancellor, George Osborne, guided by 'the fundamental Conservative principle that people who have worked hard and saved hard all their lives should be trusted with their own money', decided that retirees should be able to pass on unspent pension pots without their descendants incurring inheritance tax.
But, if Labour's plans come to pass, this will soon no longer be the case. In her first Budget as Labour Chancellor, Rachel Reeves undid some of these freedoms by announcing her intention to bring pension pots into scope for inheritance tax.
Though yet to become law, the proposals have nonetheless thrown a spanner in the works for many savers and financial planners, whose carefully planned retirements must now account for their pensions being fair game for the taxman.
HMRC and the Treasury have been silent since the consultation into the change closed in January. According to Rachel Vahey, of stockbroker AJ Bell, pensioners are already patting for parachutes.
'While we wait to see the Government's next move, the pensions market is already starting to factor in the proposed changes,' she says.
'Over half of advisers are seeing new clients approach them for help with estate planning, including measures such as withdrawing money to spend, sheltering funds from inheritance tax or giving money to loved ones.'
While some pension savers are seeking to spend their cash as quickly as possible, most are seeking more sensible ways to mitigate the new rules.
For David Hobbs, 56, a former wealth manager from south London, Labour's planned tax raid on pensions undoes the more progressive policies of past Tory governments.
'It was great that Jeremy Hunt got rid of the lifetime allowance,' he says. 'By bringing pensions into inheritance tax, they've effectively taken that giveaway.'
Though he is a decade away from retirement, Hobbs does not have much time to recalibrate his savings to account for such a significant shift in tax policy – and he's now busy planning what to do for the best.
'As I come to stop working, my ability to change my financial outcome is limited,' he says. 'The point I go from accumulating to 'decumulating' is fixed.'
In the last year, Hobbs has thought about how to pass on more money to his children.
'I'm not against paying tax, but the fact is you ultimately build a set of plans and you make assessments based on your understanding of the tax rules as they apply,' he says.
'From a financial planning point of view, you'd have looked to use your pension last, but this reverses the whole thing so you're incentivised to spend as much as you can.'
'I think it's grossly unfair'
Effects of the forthcoming changes could be compounded by those who already changed their pension plans as a result of Mr Osborne's pension freedoms, which allowed retirees to access their savings early.
This prompted many to plough money into private pensions, ditching annuities. Research by the Pensions Policy Institute found that the number of annuity sales plummeted after the former chancellor's initial announcement.
Their lack of flexibility and historically poor rates meant annuities continued to fall out of favour in the following years.
Sir Steve Webb, the former pensions minister, said: 'More recent figures show some recovery, but sales of annuities are still way down. This means that, instead, more people have either cashed out their pension pot in full at retirement – usually for smaller pots – or kept them invested in a 'drawdown' account.'
But Ms Reeves's announcement has moved the goalposts yet again – and annuities could be worth considering.
'The main thing which has changed recently is that the proposed inclusion of pensions in inheritance tax may lead to some flow of money out of defined contribution pensions, including possibly some people buying annuities to help avoid inheritance tax,' says Sir Steve.
Buying an annuity gives you a guaranteed income for life. There are lots of different types, but if you buy one for you and your spouse, for example, the money is not held as part of your estate, and when you die the money will still be paid to them – subject only to income tax.
However, the rate you get will depend on a lot of factors, including your age and any health conditions.
It's one option that savers like Hobbs might consider. Wealth management firms such as Quilter are also advising clients to look at other options, such as strategic gifts, using trusts, or considering investment bonds wrapped in trusts, as investment growth steadily pushes the value of estates higher over time.
Rachael Griffin, of Quilter, says: 'Many more estates are set to become liable for inheritance tax as pension wealth is brought into scope from 2027.
'But to add fuel to the fire, the frozen residential nil-rate band will compound the problem for families with estates nudging over £2m, where that valuable allowance starts to taper away.
'For those with significant property and pension wealth, it could mean a much bigger tax bill than expected.'
But for those already in retirement like Barry Davis, 72, changing the structure of their pension savings is far more difficult – and he feels it's too late to make a difference now.
'It made more sense to do income drawdown – and it was a decision that was irreversible,' Davis says.
'Nine years later, they announced that pensions would be subject to inheritance tax. To buy an annuity now, I would have to take the money out and pay tax on it. It's a retrospective change in law, and I don't think they should apply it when people have made irrevocable decisions.'
Davis has roughly £1.3m saved in his pension, and he estimates Labour's tax raid will increase his inheritance tax liability to £500,000.
'Worse than that, if I die and that £1.3m is still there, the people I leave money to pay 45pc [income] tax when they take it out, on top of the inheritance tax. I think it's grossly unfair.'
'We give our children regular gifts of £3,000 a year'
The most common way to avoid the spectre of the taxman is to make regular gifts out of disposable income. Provided the amount you give does not negatively impact your standard of living, the money will not incur inheritance tax.
A Telegraph reader, who asked to remain anonymous, is doing exactly this. 'We give our children £3,000 a year each, and when they buy a house, we will take some money out of our Isas, not our pensions,' he says.
The 60-year-old and his wife have been self-employed for 20 years, and have for decades prioritised saving into their Sipps, funnelling money from their Isas into their pensions as a direct response to Osborne's pension freedoms.
Making regular gifts is the way they're choosing to reorganise their finances, but it's not without risks – not least the chance you'll fall short if faced with the eye-watering cost of care in later life.
'If my wife gets dementia, or I do, or both of us do, then our children have power of attorney and they will spend everything we've got looking after both of us,' says the reader.
An HM Treasury spokesman said: 'We continue to incentivise pension savings for their intended purpose – of funding retirement, instead of them being openly used as a vehicle to transfer wealth – and more than 90pc of estates each year will continue to pay no inheritance tax after these and other changes.'