Your Pension Could Lose 67% to Tax – Here's What London Property Owners Must Do
One of the most significant — and quietly devastating — tax changes in recent memory is coming into force in April 2027. For the first time, unspent pension pots will be brought within the scope of inheritance tax (IHT). For high-net-worth individuals who also own prime London property, the combined effect of IHT and income tax could leave families with as little as one third of what was originally saved.
In the latest episode of the London Property Podcast, host Farnaz Fazaipour is joined by Alan Kennedy, Managing Director of Trident Tax, to work through exactly what this means — and what can be done about it before the window closes.
Why This Change Hits So Hard
Until now, any money left undrawn in a pension pot at death escaped inheritance tax entirely. It was a cornerstone of sensible financial planning: spend other assets first, leave the pension until last, and whatever remains passes on outside of the taxable estate.
From April 2027, that strategy no longer works. Unspent pension funds will be subject to 40% IHT on death. If a higher-rate taxpaying child then draws what remains, they’ll face up to 45% income tax on top. The maths is stark: a £1 million pension pot could be reduced to around £330,000 by the time it reaches the next generation — a combined tax rate of approximately 64–67%.
The government’s justification is that large pension pots are being used as IHT shelters rather than retirement income. Alan Kennedy’s counter is straightforward: no one knows how long they’ll live or what the cost of living will be, and there’s no exemption for those who die prematurely before they’ve even had the chance to draw their pension.
The IHT Problem Isn’t Just for the Very Wealthy
A common misconception is that inheritance tax only affects the ultra-rich. In reality, the nil rate band — the tax-free threshold — has been frozen at £325,000 since 2009. With London property values having tripled in some areas since then, a far larger proportion of the population is now caught in the IHT net than ever intended.
For married couples or civil partners with mirror wills, the combined nil rate band rises to £650,000. There is also a residence nil rate band of £175,000 per person (£350,000 combined) for the family home, provided it passes to children or grandchildren — but this relief tapers away entirely once the total estate exceeds £2.35 million. For most prime London homeowners, that additional relief simply does not apply.
A Worked Example: £6M Property + £2M Pension
Take a couple who own a £6 million London home outright and have £2 million in pension savings, with no planning in place. Their £8 million estate faces a substantial IHT bill — with only £650,000 of tax-free allowance between them, the vast majority will be taxed at 40%.
Here is the order of priority Alan Kennedy recommends:
1. Make mirror wills immediately
Without a will, dying intestate means the law automatically directs a portion of the estate to children, triggering an immediate IHT bill the surviving spouse cannot easily meet. This can force the sale of the family home. Mirror wills — leaving everything to each other — prevent tax arising on the first death and consolidate both nil rate bands for the survivor.
2. Consider drawing the 25% tax-free pension lump sum
Up to 25% of a pension fund can be withdrawn free of income tax. On a £2 million pot, that is £500,000. If this money is not needed for living costs, it can be gifted to children — and provided the giver survives seven years from the date of the gift, it falls outside the taxable estate entirely.
3. Weigh up whether to draw the rest of the pension early
The answer here is genuinely not straightforward. Drawing the remaining pension now means paying income tax at 40–45%, but avoids the additional inheritance tax layer later. Leaving it in the pension preserves 100% of the fund for tax-efficient investment growth. Whether drawing early produces a better family outcome depends heavily on individual financial projections, family structure, the children’s tax positions, and whether any of them may leave the UK.
What Can Be Done With the Property?
For the £6 million London home, there are several strategies worth exploring:
Gifting the property removes it from the estate — but only if the donor survives seven years. If you continue living in the property after gifting it, HMRC treats it as a “gift with reservation of benefit,” meaning it remains in your estate for IHT purposes regardless.
The exception: if you pay a market rent to your children after gifting the property, the reservation of benefit rules do not apply. On a £6 million home at roughly 3% yield, that is around £180,000 per year. Even accounting for income tax paid by the children on that rent, the IHT saving on the capital — £2.4 million — means it would take nearly 40 years of rent payments before the tax leakage matches what would otherwise be lost to IHT.
Second or holiday homes are particularly well-suited to this strategy. HMRC guidance allows a gifted property to be used by the donor for up to four weeks per year when staying with the children, or two weeks without them, without triggering the reservation of benefit rules. If the property is also let commercially for much of the year, the parents may only need to pay rent for the periods they actually use it.
Partial gifting is also possible — gifting a proportion of the property to each child, or designating bedrooms within a family home to specific children. This reduces IHT exposure without requiring full transfer or ongoing rent payments.
Capital gains tax must always be checked before any property gift is made. The main family home, if it has always been the primary residence, carries no CGT on transfer. A holiday home will.
Deed of Variation: A Useful Tool for Inherited Property
For families where a parent has already died and children have inherited a property, there is a two-year window to execute a deed of variation — redirecting the inheritance to grandchildren or a trust without the stamp duty land tax that would arise from a corporate transfer. This avoids the seven-year survival clock entirely, since the asset never legally becomes the children’s to give away. It also resets capital gains tax to the value at the date of death, removing any latent CGT liability that might otherwise arise on a future gift.
What Overseas Owners Often Get Wrong
Many non-UK-domiciled individuals believe that leaving the UK — or owning UK property through an offshore company — removes their exposure to IHT. It does not.
Any UK asset is subject to inheritance tax regardless of where the owner lives or what their domicile status is. Furthermore, since 2017, UK residential property held through an overseas company — in Jersey, Panama, or anywhere else — is also brought within the IHT net. The corporate wrapper no longer provides the protection it once did.
The Window Is Closing
The April 2027 deadline is real, and the planning required — reviewing wills, restructuring pension withdrawals, making property gifts — takes time to execute properly. The interactions between pension decisions, property strategy, capital gains tax, income tax, and IHT are genuinely complex. A decision that looks optimal in isolation can have significant unintended consequences when viewed across the whole estate.
Trident Tax works with high-net-worth families on exactly these questions. At London Property, we help clients understand the property dimension — including how ownership structure, timing, and use of a property intersects with their wider tax planning.
If you have a pension and prime London property, this is a conversation worth having now.
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