One of these challenges is the collection of IHT. When an individual dies, their assets will pass in accordance with specific rules (such as for jointly held property) and their Will (if one is held on death, or via intestacy laws if there is no Will). Pension funds generally pass in accordance with the arrangements made between the pension provider and the individual, often by nominating beneficiaries. From April 2027, where IHT is payable on pension funds then this is a liability of the personal representatives of the deceased, rather than the pension fund itself, who may need to seek reimbursement for the tax from the pension benefactors. They will however be able to require the pension provider to hold back 50% of the pension for a limited amount of time to ensure the funds are there to pay the IHT. Pension providers may also become liable to pay the IHT if they fail to comply with instructions they receive. You can see that lots of difficulties could arise once a person has died, particularly if their executors/PRs cannot easily track down what pension funds were still held.
A further practical issue will be the timing of extracting pension income after death, as the IHT paid is used to reduce taxable income. This may create situations where too much tax is collected from pension income after a death and the beneficiary will need to resolve the income tax position directly with HMRC to obtain a refund.
It should be remembered that the exemption from IHT for gifts between spouses / civil partners and to registered charities will apply to pension funds. It will be common for pension funds to pass from one spouse to the other and no IHT should be payable on that transfer, with the IHT liability falling on the second death within the couple.
This may also incentivise individuals to include charities within their nominated beneficiaries of pension funds, as a further income tax benefit arises. Payments from a pension to a charity are not generally treated as unauthorised payments and therefore no income tax will be charged when the charity extracts those funds. So it may be worth considering moving charity donations to the pension and away from the general estate. This may be most relevant to those with money purchase schemes who have no direct dependants. Furthermore, where an individual leaves at least 10% of their estate to charity then the main rate of IHT can reduce from 40% to 36% on death and pension funds will be included in that calculation.
Assets contained within a pension fund that would otherwise qualify for Agricultural or Business Property Relief cannot access the relief whilst in the pension fund. It may therefore make sense for some individuals to plan to re-purchase qualifying assets from the pension fund to access the relief in future, and to make the pension funds more liquid for when IHT becomes payable.