Families could face £500,000 tax bill if pensions hit by inheritance tax and income tax | Personal Finance | Finance

This means a pension pot worth £1m would be hit with £520,000 in inheritance tax and income tax, according to the report. Institute of Financial Studies (IFS). The changes could raise inheritance tax by up to £1.9 billion a year, enough to reduce the inheritance tax rate from 40 per cent to 30 per cent, the study said.

Currently, if a person dies before the age of 75, his successor will not pay Income tax of the payments they receive from them Private PensionAnd Britons get tax relief when they pay into their pensions.

Funds received on pension are also excluded Inheritance taxA 40 per cent tax applies to other assets worth more than £325,000 for individuals or £650,000 for couples.

This creates a curious situation, the IFS said, “where a pension is treated more favorably by the tax system as a bequest vehicle than as a retirement income vehicle”.

To address this, the committee has recommended that the current basic income tax rate of 20 per cent be levied on all withdrawals from inherited pension funds, irrespective of the age of the person at the time of their death.

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If funds are withdrawn by non-income taxpayers such as children, the agency said this could be linked to a minimum income tax rate on withdrawals to prevent funds evading tax.

The committee proposes to extend inheritance tax (IHT) to pension pots, with 80 per cent of their value hit by IHT, provided they are subject to the basic rate of income tax.

Under the proposals, taxation from IHT and income tax on inherited pensions would be equal:

  • £100,000 pension pot – £52,000 tax
  • £250,000 pension – £130,000 tax
  • £500,000 pension pot – £260,000 tax
  • £1 million pension pot – £520,000 in taxes.

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The IFS estimates that if the generation benefiting from current pension tax freedoms – those retiring after April 2015 – were to die with their pension pots full, this would generate £1.9billion a year in IHT receipts.

Analysts said this would represent a 25 per cent increase in IHT revenue, justifying a reduction in the IHT rate from 40 per cent to 30 per cent.

If this generation died with half their current pensions, this would boost IHT receipts by £0.9 billion, enough to reduce the rate to 35 per cent.

Tom Selby, Head of Retirement Policy AJ BellHe said the “generous” levy on death for pensions could be reassessed by the government ahead of next year’s budget.

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He warned: “Without safeguards, moving tax targets immediately risks turning a sensible financial decision into one that costs people tens of thousands of pounds in tax.

“People facing a big tax bill as a result of what feels like a retroactive tax change will understandably feel very hard done by.

“However, creating a new protection regime – as we’ve seen previously with lifetime allowance cuts – would pile additional complexity on an already difficult-to-navigate system and limit the amount of money such a move would raise.”

In addition to the £325,000 and £650,000 nil-rate bands for inheritance tax, Britons can take home a £175,000 residence nil-rate band, bringing the couple’s tax-free allowance to £1 million.

People can reduce the IHT rate applicable to their estate to 36 per cent if they leave at least 10 per cent of their estate to charity.

After deducting the amount going to the trust, the 36 percent rate is applied to a person’s estate.

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