Pensions and their impact on large gifts to charity

Changes to the taxation of pensions

The Finance Act 2026 has introduced significant changes to the way pensions will be taxed on death. While royal assent was received in March 2026, the full implications of these changes are still being understood, with the Government expected to pass further legislation and publish further guidance later this year. Currently, the majority of unused pensions funds do not form part of the deceased’s estate for inheritance tax purposes. However, this is set to change for individuals who die on or after 6 April 2027.

From 6 April 2027, most unused pension funds and pension death benefits will be brought within the deceased’s estate for inheritance tax purposes. This means unused pension funds will now be taxable at a rate of 40% after the application of any relevant exemptions or allowances and the value of these unused pension funds will start to interact with other reliefs such as the reduced rate of inheritance tax when making large gifts to charity on death.

The reduced rate of inheritance tax

To encourage charitable giving, an individual’s estate can benefit from the reduced rate of inheritance tax of 36% if they give, broadly, 10% or more of their taxable estate to charity. When calculating how much needs to be given to charity in order to qualify for this exemption certain allowances are taken into account, and it is often the case that much less needs to be given to charity than expected. However, it is extremely important that a sufficient amount is given as if the gift is too small, the relief will not apply at all.

Therefore, when including a gift to charity in an individual’s will, estate planners often include a mathematical formula to ensure the gift to charity is of the exact amount needed to qualify for the reduced rate. This is the safest way to make the gift as the value of an individual’s estate can increase and decrease over the years and it is important that family members do not lose out if the value of the estate decreases in later years.

In order to apply the relief, an individual’s estate is divided into components, the most significant of which is usually the general component. Currently the general component includes all assets which most people consider part of their estate for inheritance tax purposes, being all assets owned at death other than any assets which are jointly owned and pass automatically to the other owner(s) on death (there are other components which are not relevant here).

Using the formula described above, philanthropists seeking to benefit from the reduced rate will leave a legacy in their will to charity of a sufficient amount of the general component. This legacy will be paid using the assets in their estate which pass under their will and ensures all the assets passing under their will benefit from the 36% rate of inheritance tax. This legacy is generally paid in priority to other gifts in the will including gifts to children.

What’s changing and what is its impact?

The Government has recently confirmed that, once pensions are included within the inheritance tax calculation, unused pension funds will fall within the general component even though the majority of unused pension funds will pass outside an individual’s will.

The consequence of this is anyone with the charitable legacy formula in their will could automatically end up giving significantly more of their estate to charity than they previously intended if they have a sizable pension fund which will not be used up during their life.

Additionally, as the gift to charity is paid out of the assets which pass under an individual’s will, it is possible that there will be insufficient assets to make the gift if the deceased’s main asset by the time of death is their pension. Alternatively, although there may be sufficient assets in the deceased’s estate to pay the gift to charity, if the beneficiaries under the will are different to be beneficiaries of the deceased’s unused pension, the beneficiaries under the will may lose out as the gift to charity in the will is generally paid in priority to other gifts included in the will.