Inheritance tax rule changes that mean pensions will be included in calculations from 2027 could leave the loved ones of as many as six times more over 55s liable to pay, according to new analysis.
Wealth manager Quilter reviewed the portfolios of its thousands of clients since it was announced in the Autumn Budget 2024 that pensions will be brought into scope of inheritance tax (IHT) in two years’ time.
It found the families of one in five clients aged over the age of 55 could be subject to an inheritance tax liability from April 2027 – a six-fold increase on current levels.
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Advisers have started recommending onshore bonds, as well as trusts, as legitimate ways for clients to avoid inheritance tax.
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The findings are based on the wealth manager’s platform data, which factors in pension assets alongside other holdings and half the value of the client’s assumed property wealth, estimated using average regional house prices.
The analysis underlines how, once pensions are included, even previously relatively modest estates will breach the frozen £500,000 IHT threshold, made up of the £325,000 main nil rate band and the £175,000 main residence nil rate band.
Roddy Munro, head of technical sales at Quilter, said: “The scale of change we’re facing is monumental. Tax allowances have been repeatedly slashed, and from 2027, the inclusion of pensions in IHT calculations will shift the dial even further.
“Our traditional approach to financial planning must evolve as clients find themselves with wealth trapped in wrappers that no longer offer the same tax protection.”
Financial planning advice has changed
The recent inheritance tax rule changes add to a tightening tax landscape for savers and investors, especially those looking for ways to lower their IHT bill.
Frozen and reduced allowances for capital gains tax, dividends, and the pension commencement lump sum (25% tax-free cash) have reduced the effectiveness of traditional financial planning built around ISAs, General Investment Accounts, and pensions that has shaped financial advice for the past 15 years.
For those with significant wealth in these products – many of whom are older individuals approaching or in retirement – the core of financial planning must evolve.
This shift is already influencing adviser strategies, according to Quilter, with bonds and trusts becoming more popular. Bonds provide tax deferral and control, while trusts enable clients to ring-fence assets outside their estate for IHT purposes and manage succession plans.
Quilter’s internal data found recommendations for onshore bonds from financial advisers has nearly tripled since the October 2024 Budget.
Munro said: “Gifting out of excess income [to reduce IHT liability] often falls short, especially when investment performance replenishes what’s been given away. This is where the strategic use of bonds and trusts comes into its own. When used correctly, they can become the foundation for intergenerational wealth transfer in this new era.
“Bonds and trusts will play a far more important role in estate planning in the years ahead,” he said.
Using onshore bonds and trusts to avoid inheritance tax
When you place an onshore bond into a discretionary trust, you're making a gift that begins to move the value of that investment outside your estate. Provided you live for seven years after the gift is made, it typically won’t count towards your inheritance tax bill.
In the meantime, the bond continues to grow within a tax-efficient wrapper.
Onshore bonds are also taxed differently from other investments and are sometimes referred to as a non-income producing or capital asset.
Shaun Moore, chartered financial planner at Quilter, explained: “Rather than the bondholder paying tax on income and gains directly, the bond provider (the life insurance company) pays tax at a maximum rate of 20% on income and gains on the assets linked to the bond, as they arise.
“This means there is usually no further tax to pay by the bondholder while the bond is growing.”
The bondholder is taxable should a chargeable event occur. This is generally when money is removed from the bond, such as a full surrender or a large withdrawal. Even then, additional tax is only due if the person liable is a higher or additional rate taxpayer.
This can make ongoing administration simpler, particularly for trustees who are liable for trustee rate of tax, as there is no need to report annual income or gains on the linked assets to HMRC.
One of the big advantages of this structure is the control it offers, said Moore.
“The trust allows you to appoint trustees, often family members or professionals, who can decide how and when money is paid out to beneficiaries such as children or grandchildren.
“This makes it a good option if you are not comfortable giving large sums away outright but still want to reduce the size of your taxable estate.”
That said, trusts come with their own tax rules and responsibilities. There may be charges when setting them up, and if the amount placed in trust exceeds your available inheritance tax allowance, there could be an immediate inheritance tax charge.
Trusts may also be subject to ten-yearly and exit charges, so it is important to understand the long-term implications.
Moore said: “These structures are not suitable for everyone, but when used appropriately, they can be a powerful part of a broader estate planning strategy. Anyone considering this route should speak to a financial adviser to ensure it is the right fit for their circumstances and that everything is structured correctly from the outset.”
