From April 2027, two taxes can apply to the same inherited pension. The income tax rules that depend on age at death continue to apply, and a new inheritance tax position sits on top of them. Understanding how the two interact is the key planning question for many families.
Before April 2027
Under the current rules, most unused defined contribution pensions pass to beneficiaries outside the estate for inheritance tax. The income tax treatment depends on the age at death.
- If the pension holder dies before age 75, the beneficiary can usually take the pension free of income tax, whether as a lump sum or as drawdown
- If the pension holder dies at or after age 75, the beneficiary pays income tax at their marginal rate on whatever they withdraw, but there is no inheritance tax on the underlying pot
After 6 April 2027
From April 2027, most unused pension funds and pension death benefits will be brought into the estate for inheritance tax purposes. Inheritance tax may apply at 40 per cent on the portion of the estate above the available thresholds.
The income tax treatment of withdrawals by beneficiaries is unchanged. Pre-75 deaths generally remain tax-free to the beneficiary. Post-75 deaths remain taxable at the beneficiary's marginal rate.
The income tax deduction
To avoid the same money being taxed twice at the full rate, the government has confirmed that inheritance tax paid on a pension will be taken into account when income tax is calculated on later withdrawals by the beneficiary. The effect is to reduce, though not always to eliminate, the combined tax burden where the pension holder dies after age 75.
The exact effect depends on the beneficiary's marginal income tax rate, the inheritance tax position of the wider estate, and the timing and pattern of withdrawals.
What this changes in practice
For the first time, the order in which different assets are drawn in retirement starts to matter for inheritance tax reasons, not only for income tax. The combination of pension, ISA, general investment account and property can be sequenced in different ways to mitigate the combined tax position over a lifetime.
The right sequence depends entirely on individual circumstances, including the size of each asset, your age, expected income needs, family structure and gifting intentions.
This is one of the areas where the answer cannot be intuited from first principles. The interaction of income tax, inheritance tax, the income tax deduction, the time value of money, and life expectancy means that a small change in drawdown strategy can compound into a significant difference in family wealth over twenty years. Cash flow modelling done properly is the tool that exposes which approach actually works best for a given family.
Sources: HMRC technical note on inheritance tax on pensions; Finance Act 2026.