Pensions IHT plans risk creating probate 'catch-22'

Proposed changes to the inheritance tax (IHT) treatment of pensions could leave bereaved families unable to access pension funds needed to pay tax before probate is granted, the Society of Trust and Estate Practitioners (STEP) has warned.

In a letter to Financial Secretary to the Treasury, James Murray, STEP welcomed HMRC’s recent technical guidance on extending IHT to unused pension funds and death benefits, but said several practical issues remained unresolved.

Under the proposals, prospective personal representatives can request information from pension schemes but cannot require schemes to make direct IHT payments to HMRC.

STEP warned that this could create a 'catch-22' in which the tax must be paid before probate is granted, while the pension funds needed to pay it cannot be accessed until probate has been obtained.

It therefore called for the Pensions Direct Payment Scheme to be extended to prospective personal representatives.

STEP also raised concerns about the cash-flow pressures families could face when pension death benefits are delayed.

The organisation noted that death benefits could take many months, and sometimes as long as two years, to be distributed.

Requiring the pension-related IHT liability to be paid in full before beneficiaries received the funds could therefore cause significant financial hardship.

It recommended extending existing instalment provisions so that IHT attributable to pension assets could be paid in instalments where the underlying assets would have qualified for this treatment if held within the deceased’s free estate.

STEP technical counsel and head of government affairs, Emily Deane, said: “Families and businesses do not need more tinkering and added complexity from this Budget. They need certainty - policies that are properly thought through, joined up and actually workable.

“The government has already made significant changes to inheritance tax, pensions, reliefs and international tax rules, but these have been made in silos without properly considering how they work together. This is causing disruption.”

Meanwhile, the letter also warned that pension assets would be valued at the date of death but could subsequently fall in value before being sold, potentially leaving beneficiaries paying tax on a value they never received.

STEP therefore called for existing loss-on-sale reliefs to be extended to pension assets, or for a comparable form of relief to be introduced.

It also recommended a simplified approach for pensions discovered after an estate had already been distributed.

Rather than requiring personal representatives to revisit the tax treatment of the entire estate, STEP said previously unknown pensions should be taxed as standalone assets.

In addition, STEP noted that the proposed protection allowing schemes to withhold up to 50 per cent of pension funds for 15 months might expire before the final tax position was known.

To address this, it called for the withholding period to be extended to 24 months, alongside consideration of stronger safeguards.

The letter also argued that agricultural and business assets held within pensions should qualify for agricultural property relief and business property relief where the same assets would qualify if held directly in the deceased’s estate.

Deane argued the proposals should not proceed without a thorough assessment of how they would work in practice and interact with the wider tax system.

“Unless tax changes are joined up, policies could cost more to administer than they raise in revenue, with families and businesses forced to pay for specialist advice just to understand their liabilities,” she added.

This article originally appeared in our sister publication Pensions Age.

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