Death Benefits from Defined Contribution Pensions: Nominations, Tax, and the 2027 Changes

Defined contribution (DC) pensions have long been regarded as the most IHT-efficient vehicle available to UK residents for passing wealth to the next generation. Under current rules, unspent pension funds can pass outside the taxable estate, free of inheritance tax, to nominated beneficiaries. That position is due to change materially from 6 April 2027, when legislation already enacted (in Finance Act 2026) brings most unspent pension funds within the scope of inheritance tax. Understanding how DC death benefits currently work — and how they will change — is essential for anyone with substantial pension savings who wishes to plan their estate efficiently.

Current rules: death benefits from DC pensions

When a DC pension member dies, the remaining fund does not automatically become part of their estate. Instead, it passes under the scheme's rules to the trustees, who exercise their discretion to pay death benefits in accordance with the member's expression of wishes and the scheme's rules.

The key tax treatment depends on age at death:

Death before age 75: The fund (uncrystallised) or the remaining drawdown fund (crystallised) can be paid to any nominated beneficiary as either a lump sum or a beneficiary drawdown, entirely free of income tax. There is no income tax charge on the beneficiary. The payment also falls outside the member's estate for IHT purposes, subject to the lump sum and death benefit allowance (LSDBA).

Death at or after age 75: The fund passes to nominated beneficiaries, still free of IHT under current rules, but subject to income tax in the beneficiaries' hands at their marginal rate. The beneficiary treats the income as non-savings income. If the beneficiary is a basic rate taxpayer, they pay 20%; if higher rate, 40%; if additional rate, 45%.

The income tax position at 75+ does not affect the IHT exemption under current rules — the fund still passes outside the estate.

The lump sum and death benefit allowance

Following the abolition of the lifetime allowance on 6 April 2024, the lump sum and death benefit allowance (LSDBA) limits the total tax-free death benefits paid across all registered pension schemes. The LSDBA is £1,073,100 — the same as the former standard lifetime allowance.

Where a lump sum death benefit is paid tax-free (death before 75), it counts against the deceased member's LSDBA. Where the LSDBA has already been partly used during the member's lifetime (for pension commencement lump sums or serious ill-health lump sums), the remaining LSDBA at death limits the tax-free lump sum that can be paid.

For most individuals, the LSDBA is sufficiently large that it does not restrict death benefit payments. However, members of multiple large DC schemes, or those who have taken substantial pension commencement lump sums, may approach the LSDBA limit.

Discretionary nomination of beneficiaries

DC pension death benefits are paid at the trustee's or scheme administrator's discretion. This means the money does not form part of the deceased's estate and is not bound by their will. The scheme administrator follows the member's expression of wishes (nomination form) but is not legally obliged to do so — this discretionary structure is precisely what keeps the fund outside the estate for IHT purposes.

Nominations can typically be made in favour of:

• Named individuals (spouse, children, grandchildren, siblings, other relatives, friends)
• Discretionary trusts (useful for flexibility and further IHT planning)
• Charities
• The estate itself (though this negates the IHT advantage under current rules)

Nominations must be kept up to date. A nomination made years ago may not reflect current wishes — for example, where a divorce has occurred, a beneficiary has died, or new grandchildren have been born. Stale nominations can lead to outcomes the member would not have intended.

Beneficiary drawdown

Where the beneficiary elects to take the pension as a "beneficiary drawdown" (inheriting the pension pot rather than taking a lump sum), they can draw income over their own lifetime. This can be significantly more tax-efficient than a large lump sum, particularly if the beneficiary is in a lower tax bracket or if spreading income across years reduces the marginal rate.

Beneficiary drawdown has no minimum required withdrawal level; the beneficiary can draw as little or as much as they wish each year. The fund continues to be invested.

Beneficiary drawdown from a pre-75 death fund is income-tax-free. Beneficiary drawdown from a post-75 death fund is taxable as income when the beneficiary takes withdrawals.

The April 2027 IHT changes

The Government announced at the Autumn 2024 Budget that from 6 April 2027, unspent pension funds will be included within the deceased member's estate for inheritance tax purposes on death. This measure was legislated in Finance Act 2026 (which received Royal Assent on 18 March 2026). The key changes are:

• Unspent pension funds (uncrystallised and drawdown) will be included in the member's estate for IHT at death
• The IHT charged will be at the standard rate of 40% on amounts above the available nil-rate band and residence nil-rate band
• There will be an exemption for pension fund assets passing to a surviving spouse (spouse exemption continues to apply)
• Following consultation, the personal representatives of the estate — rather than the pension scheme administrator — will be liable for reporting and paying the IHT due on the pension funds

These changes fundamentally alter the estate planning logic for DC pensions. Under the current rules, it is often beneficial to spend down non-pension assets first and preserve the pension fund as the most IHT-efficient inheritance. From April 2027, this reasoning is largely reversed for many individuals: spending the pension down during retirement, and leaving other assets (property, ISAs, investments) to pass through the estate, may be more tax-efficient.

Interaction with IHT reliefs

The pension fund will be aggregated with other estate assets for the purpose of applying the nil-rate band (currently £325,000) and residence nil-rate band (currently £175,000, potentially £500,000 combined where a qualifying residential property is inherited by direct descendants).

Where the estate — including the pension fund — is below the available nil-rate bands, no IHT will be payable regardless of the 2027 changes. For larger estates, the pension fund's inclusion will add to the IHT bill at 40%.

Double taxation concern

Critics of the 2027 changes have raised concerns about double taxation: if a beneficiary also pays income tax on pension withdrawals (death after 75) and the estate also pays IHT on the same fund, the combined effective tax rate could exceed 60% in some scenarios.

The legislation in Finance Act 2026 sets the framework that applies from 6 April 2027, but the interaction between the IHT charge and the income tax due on post-75 death benefits means a high combined effective rate can still arise in some scenarios. Detailed guidance and processes continue to be developed, and it is essential to seek advice based on the legislation and HMRC guidance current at the time of any planning decision.

Planning responses to the 2027 changes

Several planning strategies have been identified as potentially valuable in the post-2027 environment:

Spend down the pension in retirement: For individuals who are IHT-exposed, drawing down the pension more aggressively — within sensible income tax band management — and preserving other assets is likely to reduce the overall tax burden under the new rules.

Accelerate pension withdrawals before April 2027: Taking larger pension withdrawals in 2026–27 (before the changes take effect) and using the proceeds to make gifts, fund charitable donations, or invest in IHT-exempt assets may reduce the pension fund below the IHT threshold.

Spouse nominations: With the spouse exemption continuing, nominating a surviving spouse as the first beneficiary preserves the IHT advantage on the first death, with further planning required on the second death.

Charitable legacies from pension: Pension funds left to charity are exempt from IHT. Charitable nominations in expression of wishes forms may become more common in estate planning strategies.

Whole-of-life insurance to cover the IHT liability: Where a pension fund is to be preserved for reasons other than IHT efficiency, a whole-of-life policy written in trust can provide a cash sum to meet the expected IHT charge without liquidating the pension or other assets.

Expat death benefits

For non-UK residents, UK pension death benefits follow the same UK rules, but the DTA between the UK and the country of residence may affect the income tax treatment when beneficiaries receive inherited pension income. Some DTAs give the UK exclusive taxing rights; others give the beneficiary's country of residence taxing rights on inherited pension income.

The IHT position for non-UK residents who die leaving a UK pension fund will also depend on their domicile status. UK-domiciled individuals are subject to UK IHT on worldwide assets. Non-UK domiciled individuals are subject to IHT only on UK-sited assets — and a pension held in a UK registered scheme is a UK-sited asset for this purpose.

Act now, given the uncertainty

The 2027 changes have already altered how financial planners approach estate planning with DC pensions. With the measure now enacted in Finance Act 2026, the direction of travel is settled: unspent pension wealth will be treated less favourably from an IHT perspective from 6 April 2027. This means reviewing existing drawdown strategies, nomination forms, and estate planning arrangements now is strongly advisable.

This guide provides an overview of the rules and the legislated 2027 changes as of June 2026. Supporting HMRC guidance and processes may still develop before the changes take effect. Tax treatment depends on individual circumstances and may change in future. Seek regulated financial and legal advice before making estate planning decisions.

How Global Investments Can Help

Global Investments works with clients to review DC pension death benefit arrangements in the context of the 2027 IHT changes, with particular expertise in advising expats whose estates span multiple jurisdictions. From reviewing nomination forms, to modelling the optimal drawdown strategy for IHT efficiency, to coordinating pension and estate planning with UK and international legal advisers, our team provides integrated estate planning support. Contact us to arrange a pension death benefit review before April 2027.