From 6 April 2027, most unused pension funds will form part of a deceased’s estate and so fall into the net for Inheritance Tax (IHT) calculations. While there’s certainly no need to panic, the upcoming changes might require a rethink of estate plans for some.

If you had intended to keep a large pension untouched to pass on to a beneficiary on death, for example, you might want to consider a new approach.

Instead of leaving an inheritance on death, you might opt for “giving while living”. This can have financial and non-financial benefits, especially if you make use of certain HMRC gifting exemptions.

One often forgotten exemption, known as “gifts from surplus income”, could be especially useful.

Keep reading to find out more.

Gifts can be a tax-efficient way to lower the value of your estate and any potential IHT liability

One way to manage a potential IHT liability is to lower the value of your estate through gifting.

Under current rules, you can give as many outright gifts to an individual as you like during your lifetime, with these gifts only becoming liable for IHT in the event of your death within seven years of the gift being made.

This is known as the “seven-year rule”, and the gifts as “potentially exempt transfers (PETs).”

Gifts given in the three years before death are taxed at 40%, with those given between three and seven years taxed on a sliding scale known as “taper relief”.

Note: Taper relief only applies to gifts in excess of the nil-rate band (£325,000 for the 2025/26 tax year). If no tax is payable on the transfer – because it does not exceed this amount (after cumulation) – there can be no relief. Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.

Some gifts, though, can be made IHT-free from the outset, thanks to certain HMRC exemptions.

Making regular gifts from surplus income could help you make contributions to a loved one’s savings and investments

HMRC’s “normal expenditure out of income” exemption allows you to make regular gifts to loved ones that immediately fall outside of your estate for IHT calculation purposes, regardless of when you die.

While it’s relatively underused currently, the exemption could see a rise in popularity when the chancellor’s 2027 pension IHT changes come into effect.

The exemption, which must be claimed on death, allows you to make regular gifts from your income, as long as the gifts meet certain criteria, and you can prove they qualify. You’ll need to keep your records up to date to ensure this can be done  if HMRC request information and ensure your records are available to your executors so that they can make a claim.

Broadly speaking, HMRC require proof that the gifts:

• Are made out of your usual income
• Comprise part of your normal outgoings
• Don’t detrimentally affect your standard of living.

Note: Tax deferred withdrawals from both investment and international investment bonds and fixed withdrawals from ISAs and unit trusts do not count towards this exemption but could be used as part of your annual exemption (currently £3,000).

To ensure that the payments qualify as “regular”, you’ll want to make them at a similar time each month. And ensure they’re for similar amounts. You’ll also need to be able to prove that the gift is made from income, such as your pension or salary, and that you retain enough money to maintain your living standards.

Then you just need to decide how you will pay for your gift. You might make a payment directly into a loved one’s Junior ISA or pension, for example.

There are financial and non-financial benefits to using the regular gifts exemption

Gifting from surplus income has several financial and non-financial benefits.

Financial benefits

You’ll lower your estate for IHT purposes, potentially lowering your liability on death. Payments are made from your surplus income, so are disposable amounts that might have otherwise sat in your pension and been liable to tax on death under new IHT pension rules from 6 April 2027.

Your beneficiaries’ JISAs or pensions are tax-efficient, so you’re helping them to save for their future in a tax-efficient way and teaching sound money habits.

By giving during your lifetime, your loved ones are likely to receive their inheritance at a time when they need it most. This might be when starting higher education, buying their first home or starting a family, for example.

Non-financial benefits

Giving during your lifetime means you’re still around to see the positive effect your money has.

The impact on younger family members of an inheritance early in life could be huge. And you’ll be there to make it happen, and to form lasting memories for you and the whole family.

Other HMRC exemptions might also be useful for lowering a potential IHT liability

If you’re worried that your estate might breach the IHT threshold and leave your loved ones with a liability, remember that other gifting exemptions exist, too. Gifting during your life might be the answer.

If you have any questions about gifting from surplus income, get in touch. But also speak to us about the:

• £3,000 annual exemption
• Small gifts exemption of £250 to individuals (this cannot be combined with the annual exemption)

• Exemption for wedding gifts of £5,000 for parents, £2,500 for grandparents, and £1,000 for others (as long as the gift is made on or shortly before the marriage/civil partnership takes place.

Finally, you can also usually make unlimited gifts to your spouse or civil partner during your lifetime, as long as they live permanently in the UK. Be sure to factor this into your estate planning, too, and any plans you have for lowering the value of your estate through giving while living.

Get in touch

Please contact us if you have any questions about tax-efficient gifting or about any other aspect of your long-term financial plans. De Mellow’s expert financial planners are on hand to help.

Please note

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select, and the value can therefore go down as well as up. You may get back less than you invested. Investing does not provide the security of capital, which is characteristic of a deposit account with a bank or building society.

The levels and bases of taxation, and reliefs from taxation, can change at any time and are generally dependent on individual circumstances.

SJP Approved 02/10/2025