By Justin Rourke, head of advice, Armstrong Watson Financial Planning
There are two clear headlines for financial planners and our clients from the Autumn Budget:
- Unused Pensions to become subject to Inheritance Tax
- Capital Gains Tax rates increased and ISA allowance ignored
Unused Pensions and Inheritance Tax (IHT)
Starting with pensions, it’s important not to panic.
The proposed legislation won’t come into force until April 6 2027, and prior to that it is subject to a consultation.
The consultation will take place in early 2025 and will allow the pensions industry (providers and advisers) to consult on the proposed changes.
Assuming these changes do go ahead, what are they?
Proposed changes to pensions and inheritance tax – summary of facts
- The proposed legislation is aimed at those perceived to be using pensions as a ‘family trust’ and not a retirement vehicle
- Unused pensions will be included in the overall estate value when assessing inheritance tax liabilities
- There is an exemption between spouses and civil partners – meaning that this is pertinent to those who are single and on second death if not single
- The pension value is taken at the day before death (ruling out the use of bypass trusts) and the ‘PSA’ (Pension Scheme Administrator) needs to work with the ‘PR’ (Personal Representative) to add together the estate assets + the pension value
- The pension value includes any unused defined contribution funds irrespective of the crystallisation status, and it also includes lump sum death benefit paid from a defined benefit pension
- If the unused pension funds + the estate exceed the allowances, the inheritance tax is calculated, and the bill is then split proportionally. If the estate tax liability is £100,000 and the pension accounts for 20% of the estate assets – the PSA needs to pay £20,000 (20% of the liability) directly to HMRC.
This is not simple. For anyone with more than one pension the PSAs will all need to communicate with the PR.
Those with commercial properties in a SIPP (Self-Invested Personal Pension) and/or SSAS (Small Self-Administered Scheme) will need to consider the liquidity of the scheme or the sale of assets.
It will mean a full review of ‘death benefit nominations’ for everyone with a pension to make sure the spousal/civil partner exemption is used.
Pensions remain a valuable retirement planning tool
Despite these potential complexities, it is important to retain context and balance.
Pensions have not always been IHT free, this only came about in 2015. Many financial planners will have been through cycles like this before, and that is why both flexibility and regular reviews are important.
Pensions remain a very valuable retirement planning tool, those who aim to provide a retirement income for themselves and their spouse/civil partner are less likely to be impacted.
The pre-budget speculation centred around two main themes – tax-free cash and the removal of tax relief on contributions – neither of which materialised.
Why a pension should remain a key part of your personal financial plan
There are several tax benefits for saving into a pension and these include:
- Income tax relief on contributions for all rates of income tax
- Corporation tax relief on employer contributions
- No income tax or Capital Gains Tax (CGT) on investment assets within a pension
- 25% Lump Sum Allowance (in most cases, although this is complex it remains unchanged by this budget)
- On first death, can pass the pension tax-free to a spouse or civil partner.
Don’t make any rash decisions, speak to your financial planner and adapt your plans if required.
Increases to Capital Gains Tax (CGT) and no change for ISAs
Changes to Capital Gains Tax rates were implemented with immediate effect, increasing for disposals on chargeable assets made from October 30 2024 – bringing this in line with residential rates, which remain unchanged. The key changes being:
- The rate for basic rate taxpayers increased to 18% (from 10%)
- The rate for higher rate taxpayers increased to 24% (from 20%)
This change is predominantly associated with those selling a business however, it also encompasses investors with stocks and shares portfolios.
Over recent years investors have seen the annual CGT exemption significantly reduce to only £3,000 per annum. The usual defence or protection for such investors is to use the annual ISA allowance of £20,000 per annum, but the ISA has been effectively ‘abandoned’ across several budgets, with the last annual increase in the 2017/18 tax year.
The ISA remains a valuable part of planning to mitigate income tax and CGT (although it is no defence against Inheritance Tax) but at only £20,000 per year it is important that all investment wrappers are fully explored.
A decade or more ago it was common for investment clients to hold some of their portfolio in a UK onshore Investment Bond.
This type of investment became less fashionable when CGT rates were more generous, but the time is right to reconsider the investment bond.
One final planning thought, investors who use model portfolios and/or Discretionary Fund Management (DFM) arrangements are significantly more exposed to CGT than those using Open-Ended Investment Company (OEIC) structures.
The latter allows the fund manager to make fund switches within the wrapper without crystalising capital gains.
At a time when tax is high, marginal gains can make a significant difference to meeting long-term objectives.
Good financial planning has always been about having a flexible plan, adapting and regular reviews.
