Inheritance Tax on Pensions and ISAs UK 2026: What Is Exempt, What Is Not, AIM-ISA BPR, and the April 2027 Pension Reform
ISAs are NOT IHT-exempt — they are in your estate on death despite the tax-free wrapper. DC pensions are currently outside the estate — but from April 2027 they will be included. The AIM-ISA is the one vehicle that can be both income/CGT-free and IHT-free simultaneously.
ISAs Are NOT IHT-Exempt
Despite being 'tax-free', ISAs are fully subject to inheritance tax on death. A £200k ISA in an estate above the NRB adds £80,000 to the IHT bill. The APS (Additional Permitted Subscription) preserves the ISA wrapper for a surviving spouse — it does not reduce the IHT due.
| Vehicle | IHT Position | Spousal Transfer | Planning Notes | April 2027 Reform |
|---|---|---|---|---|
| Cash ISA | NOT EXEMPT — in IHT estate at death | APS (Additional Permitted Subscription): surviving spouse can subscribe up to the ISA value into their own ISA — preserving the tax-free wrapper going forward. But the original ISA is STILL in the deceased's estate for IHT. | Spend cash ISA funds before death (to reduce the IHT estate) while preserving other assets. Or use cash ISA funds for PETs — gifts from ISA savings start the 7yr clock. For married couples: ISA value passes to spouse (potentially IHT-free under s18 IHTA spousal exemption, but NOT because it is an ISA — because it goes to the spouse). | No specific ISA reform from April 2027. ISAs remain subject to IHT as before. |
| Stocks and Shares ISA — general (non-AIM) | NOT EXEMPT — in IHT estate at death at market value of holdings | APS preserves ISA wrapper for surviving spouse. Spouse inherits the ISA tax-free status via APS — they can re-subscribe the equivalent amount into their own ISA, maintaining income tax and CGT shelter going forward. | No IHT advantage from holding shares in an ISA vs outside. ISA provides income tax and CGT shelter during life — significant financial benefit — but NO IHT benefit on death. Strategy: hold ISA investments for life tax benefits; accept IHT on death; complement with other IHT planning. | No change from April 2027 for ISAs specifically. ISAs continue to be in the IHT estate. |
| AIM Stocks and Shares ISA (AIM-ISA with BPR qualifying shares) | POTENTIALLY IHT EXEMPT via BPR: AIM shares held in ISA that qualify for 100% Business Property Relief (s105(1)(bb) IHTA 1984) can be IHT-free. Finance Act 2026: £1m combined BPR/APR cap — first £1m qualifying AIM at 100% BPR (IHT-free); above £1m: 50% BPR (20% effective IHT rate). | APS available for surviving spouse. BPR applies at date of death — the spouse inheriting via APS would need to hold the AIM shares for their own minimum 2yr period (ss106-108 IHTA) to qualify for BPR on their subsequent death. | The AIM-ISA combines TWO significant tax benefits: (1) income and CGT free in the ISA wrapper (during life); (2) BPR 100% IHT-free on qualifying AIM shares (on death, subject to £1m cap). Must hold qualifying AIM shares for ≥2yr (ss106-108 IHTA); the BPR conditions must be met at date of death. AIM shares are higher risk and less liquid than mainstream equities — specialist investment advice essential. | Finance Act 2026 introduced £1m BPR/APR cap from 6 April 2026. AIM-ISA holdings above £1m qualifying: 50% BPR. Previously unlimited 100% BPR — the cap significantly changes the planning for larger AIM-ISA portfolios. |
| Lifetime ISA (LISA) | NOT EXEMPT — in IHT estate at death | APS available for surviving spouse. No withdrawal penalty on death (the terminal illness/death exemption from the 25% LISA withdrawal charge applies — surviving spouse or estate receives the LISA value penalty-free). | LISA funds (up to £4k/yr with 25% government bonus) are subject to IHT. No IHT exemption. The LISA is designed for first home purchase or retirement — it provides a government bonus but NOT IHT protection. Funds should be drawn down as needed; unspent LISA balance at death is in the estate. | No LISA-specific changes from April 2027. |
| Innovative Finance ISA (IF-ISA) | NOT EXEMPT — in IHT estate at death. Value may be difficult to assess if holding peer-to-peer loans or alternative investments. | APS available in principle, but illiquid IF-ISA holdings may complicate the APS process (illiquid assets may not transfer easily to the spouse's ISA). | IF-ISAs can include loans to UK businesses — some of which may qualify for EIS/SEIS investment relief, but NOT for ISA BPR (the ISA wrapper and EIS/SEIS wrapper cannot be combined). No IHT exemption for IF-ISAs. Illiquidity risk adds to estate administration complexity. | No specific IF-ISA changes from April 2027. |
| Defined Contribution (DC) pension — pre-April 2027 | CURRENTLY OUTSIDE ESTATE: DC pension funds (SIPPs, personal pensions, workplace money purchase) are held by the pension scheme trustees and pass via expression of wishes — NOT as an asset of the member's estate. NOT subject to IHT (pre-April 2027). | Surviving spouse can typically receive the DC pension fund: (a) as a lump sum (tax-free if member died under 75; taxable at marginal rate if 75+); or (b) drawdown into their own pension (continuing to shelter the funds from income tax and — pre-April 2027 — from IHT). | PRE-APRIL 2027 STRATEGY: spend ISAs and taxable savings first; preserve DC pension funds (pass outside estate IHT-free on death). Maximise pension contributions. Use surplus income from other sources for PETs. The DC pension is the most IHT-efficient savings vehicle currently available (death benefit outside estate, tax-free under 75, income tax sheltered during life). | APRIL 2027 REFORM (Finance Act 2024): from 6 April 2027, unspent DC pension funds included in the IHT estate at 40% above NRB. This fundamentally changes the relative efficiency of ISAs vs pensions for IHT planning. |
| Defined Contribution (DC) pension — post-April 2027 | IN ESTATE: from 6 April 2027, unspent DC pension funds are included in the IHT estate. IHT at 40% on the pension balance above NRB (combined with rest of estate). Income tax ALSO applies if the member was 75+ at death (beneficiaries pay income tax on drawdowns at their marginal rate). | Surviving spouse: spousal exemption (s18 IHTA) on pension inherited — IHT-free between spouses (as with other estate assets). But on the surviving spouse's subsequent death: pension is in THEIR estate for IHT too (no tNRB for the pension separately). Compounding IHT problem for large combined DC pension + estate. | POST-APRIL 2027 STRATEGY SHIFT: the 'preserve pension; spend ISAs' logic reverses. Consider: (1) drawing down pension funds and LIVING on them (reducing the pension balance, so less is subject to IHT at 40%); (2) using drawn-down pension funds for PETs (7yr clock starts); (3) making pension contributions ONLY to the extent tax relief makes them worthwhile (basic rate taxpayer: pension grows in ISA vs pension largely similar after April 2027 for IHT); (4) ensure up-to-date pension expressions of wishes. The pension is still valuable as an income tax shelter during life — but the IHT advantage on death is eliminated after April 2027. | Finance Act 2024. From 6 April 2027. Only affects DC pensions (SIPPs, personal pensions, money purchase workplace pensions). DB (defined benefit) pension death benefits from schemes remain outside the estate in most cases (discretionary trust structure of the scheme). |
| Defined Benefit (DB) pension — on death | OUTSIDE ESTATE: DB pension death benefits — both ongoing survivor pensions (income to spouse) and lump sum death benefits (from discretionary trust) — are generally outside the IHT estate. The survivor pension is the scheme's ongoing liability, not the member's estate asset. DB lump sum death benefits: typically held in a discretionary trust within the pension scheme — the lump sum is at the trustees' discretion and is not a member's asset. | DB survivor pension: continuing income to the surviving spouse from the scheme. Spouse's pension rate is defined in the scheme rules (commonly 50% of the member's pension). The survivor pension is NOT part of either spouse's IHT estate. | DB pension death benefits are already very IHT-efficient and the April 2027 reform (Finance Act 2024) does NOT affect DB pension death benefits (which are NOT part of the member's estate regardless). The reform targets only DC (money purchase) pensions. | NOT affected by April 2027 reform. DB death benefits remain outside the estate as before. |
IHT pensions and ISAs UK 2026. ISAs — NOT IHT exempt: s6 IHTA 1984 — all assets owned at death in estate for IHT (no ISA exemption). ISA tax benefits: income tax free (s694-697 ITTOIA 2005) and CGT free (s535 TCGA 1992) — apply during life only. APS (Additional Permitted Subscription): ISA Regulations 1998 (SI 1998/1870) — surviving spouse/CP subscribes additional ISA allowance = deceased's ISA value; preserves tax wrapper for future; does NOT affect IHT on deceased's estate. AIM-ISA BPR: s105(1)(bb) IHTA — unquoted trading company shares; AIM listed = unquoted for BPR; 100% BPR if qualifying; ≥2yr minimum hold (ss106-108 IHTA); Finance Act 2026: £1m combined BPR/APR cap from 6 April 2026; above £1m: 50% BPR. DC pensions — pre-April 2027: outside estate (pension trustees hold funds; expression of wishes; NOT member's asset; NOT IHT). Death benefit under 75: lump sum tax-free; drawdown tax-free. Death benefit 75+: income tax at marginal rate on drawdown. April 2027 reform (Finance Act 2024): from 6 April 2027 — unspent DC pension funds in IHT estate at 40% above NRB. 75+: income tax ALSO applies on drawdown. Combined effective rate 75+: IHT 40% + income tax on net (up to ~64% combined). DB pensions: survivor pension from scheme NOT in estate; discretionary lump sum NOT in estate (held in pension scheme discretionary trust). DB NOT affected by April 2027 reform. LISA: 25% withdrawal charge if withdrawn before 60 except for first home, terminal illness, or death — estate receives LISA value penalty-free on death. APS deadline: within 3yr of death or 180 days after estate administration (whichever later). ISA income/CGT: continues in deceased ISA as 'continuing account of deceased investor' for estate administration period. NRB: £325k. RNRB: £175k (2026/27 — if qualifying residential property). s18 IHTA: spousal exemption — ISA/pension passing to spouse: IHT-free (as with any other asset passing to spouse; not because of ISA/pension status).
Pensions and ISAs for IHT: Complete Guide
The ISA IHT myth — why many people are wrong about ISA inheritance tax
Many ISA holders believe that because ISAs are 'tax-free', they are also exempt from inheritance tax on death. This is one of the most widespread misconceptions in personal finance. The truth: ISAs are not exempt from IHT. On the ISA holder's death, the ISA assets (whether cash, shares, bonds, or other investments) form part of the estate and are subject to IHT at 40% on the total estate above the NRB (£325k) and RNRB (£175k — if applicable). The 'tax-free' status of an ISA relates only to income tax (no income tax on ISA interest or dividends) and capital gains tax (no CGT on ISA gains) during the investor's lifetime. These benefits do NOT extend to IHT. The Additional Permitted Subscription (APS) — introduced to allow a surviving spouse to inherit the ISA wrapper — provides the spouse with additional ISA allowance equal to the deceased spouse's ISA value. This preserves the income tax and CGT benefits going forward. But the APS does nothing for IHT — the ISA is still in the deceased's estate, potentially subject to 40% IHT. For a person with a £200,000 ISA, a £1.5m house, and no other planning: the ISA contributes to a taxable estate, increasing IHT by up to £80,000 (£200k × 40%). The ISA provides no IHT shelter whatsoever.
The AIM-ISA: combining ISA tax benefits with BPR for a double-efficiency vehicle
The one significant exception to the 'ISAs are not IHT-exempt' rule is the AIM-ISA strategy — holding qualifying AIM shares within a Stocks and Shares ISA. AIM shares that qualify for Business Property Relief (s105(1)(bb) IHTA 1984 — unquoted trading company shares held for ≥2 years) are eligible for 100% BPR relief, making them IHT-free on death. If these qualifying AIM shares are held within an ISA wrapper: the ISA provides income tax and CGT benefits during life (dividends and capital gains within the ISA are tax-free); BPR provides IHT-free status on death (subject to qualifying conditions). The result: AIM-ISA investments are potentially both income/CGT-free and IHT-free — a 'double benefit' that no other mainstream UK investment vehicle offers. Finance Act 2026 impact: the £1m combined BPR/APR cap (from 6 April 2026) means only the first £1m of qualifying BPR assets (across ALL BPR qualifying assets in the estate — not just the ISA) gets 100% relief. Above £1m: 50% BPR (20% effective IHT rate). Caveats: AIM shares are higher risk than mainstream investments (smaller companies with less regulatory oversight); they are less liquid; individual companies must meet BPR qualifying conditions at the date of death (a trading company, not an investment company — HMRC regularly challenges BPR claims on AIM shares). Specialist investment advice from an IHT-aware financial adviser is essential.
The April 2027 pension reform — how it changes everything about pensions and IHT
Finance Act 2024 will bring defined contribution (DC) pension funds into the IHT estate from 6 April 2027. Before this: a DC pension (SIPP, personal pension, workplace money purchase) was the most IHT-efficient savings vehicle available — funds grew tax-sheltered during life AND passed outside the estate on death (via the pension trustees' expression of wishes) — with no IHT and (if the member died under 75) no income tax either. After 6 April 2027: unspent DC pension funds are included in the IHT estate. IHT at 40% above NRB. For a person who dies at 75 or over: their beneficiaries may face both IHT (40% on the pension above NRB) AND income tax (at their marginal rate of up to 45%) on the same pension funds. Calculation: IHT at 40% on gross pension; then beneficiaries draw down the net-of-IHT amount and pay income tax. Simplified: on £100k of pension above NRB: IHT = £40k; beneficiary receives £60k; income tax at 40% on drawdown = £24k; net received: £36k. Effective combined rate: 64%. For basic rate taxpayers: IHT £40k + income tax on £60k at 20% = £12k; net = £48k. Effective rate: 52%. The interaction of IHT and income tax on DC pensions post-April 2027 will be one of the most complex areas of UK tax planning.
Planning strategies for ISAs and pensions given the April 2027 reform
Given the April 2027 reform, the optimal strategy for managing ISAs and DC pensions for IHT reverses the previous conventional wisdom: PRE-April 2027 (current): spend ISAs and other taxable savings first; leave DC pension unspent (pass outside estate IHT-free). Maximise pension contributions for IHT shelter. POST-April 2027 (from 6 April 2027): the pension is no longer IHT-privileged on death. New strategy: (1) Draw down DC pension regularly and SPEND the drawdown funds on living expenses — reducing the pension balance that will eventually be subject to IHT. (2) Use pension drawdowns for lifetime gifts (PETs) — start the 7yr clock; if you survive 7yr, the gifted amount is fully outside the estate. (3) ISA vs pension equivalence: for a basic rate taxpayer, contributing to an ISA vs a pension now has similar IHT outcomes post-April 2027 (both are in the estate on death). For higher/additional rate taxpayers: pension contributions still give upfront tax relief (40-45%) — making them valuable during accumulation; but the death benefit advantage is gone. (4) AIM-ISA: becomes MORE attractive post-April 2027 vs DC pensions — AIM-ISA can still achieve IHT exemption via BPR (subject to £1m cap); DC pensions lose their IHT advantage. (5) Life insurance in trust: whole-of-life policy in discretionary trust provides death benefit outside the estate — comparable function to the pre-April 2027 pension IHT advantage. Premiums from surplus income: s21 IHTA immediately exempt.
Defined benefit pensions — why they are already outside the estate (and remain so after April 2027)
Defined Benefit (DB) pension schemes — such as public sector pensions (NHS, teachers, civil service, local government, armed forces) and many private sector final salary schemes — operate differently from DC pensions for IHT purposes: (1) Survivor pension: on the member's death, the DB scheme pays an ongoing pension to the surviving spouse or civil partner. This is a pension from the SCHEME — it is not the member's asset; it is not in the member's estate; it is not subject to IHT. The survivor pension rate is defined in the scheme rules (commonly 50% of the member's full pension). (2) Lump sum death benefit: many DB schemes provide a lump sum death benefit (often 2-4 times salary, or a return of contributions). This is held in a DISCRETIONARY TRUST within the scheme — the pension trustees decide who receives it (guided by the member's nomination/expression of wishes). Because it is in a discretionary trust: it is NOT the member's asset; NOT in their estate; NOT subject to IHT. IMPORTANT: the April 2027 reform (Finance Act 2024) does NOT affect DB pension death benefits. DB schemes are not within scope of the pension IHT reform (which specifically targets uncrystallised DC funds). DB pension holders: no action needed regarding the April 2027 pension IHT change (from a DB perspective).
Frequently Asked Questions
Are ISAs exempt from inheritance tax?
No — ISAs are NOT exempt from inheritance tax. On death, ISA assets (whether cash, stocks and shares, or other investments) form part of the deceased's estate and are subject to IHT at 40% on the total estate above the NRB (£325k) and RNRB (£175k if applicable). The ISA 'tax-free' status relates only to income tax and CGT during life — it does not extend to IHT on death. The Additional Permitted Subscription (APS) allows a surviving spouse to inherit the ISA tax wrapper (preserving income tax and CGT benefits going forward), but the APS does NOT affect the IHT position — the ISA is still in the estate for IHT. EXCEPTION: ISA holding qualifying AIM shares — AIM shares in an ISA that qualify for Business Property Relief (s105(1)(bb) IHTA 1984, ≥2yr holding) can benefit from 100% BPR, making those ISA assets potentially IHT-free (subject to the £1m combined BPR/APR cap from April 2026).
Are pension funds subject to inheritance tax?
Currently (pre-April 2027): DC (defined contribution) pension funds (SIPPs, personal pensions, money purchase workplace schemes) pass OUTSIDE the IHT estate via the pension trustees' expression of wishes — no IHT on the pension. From 6 April 2027: unspent DC pension funds will be INCLUDED in the IHT estate (Finance Act 2024), subject to IHT at 40% above NRB. If the member was 75+ at death: beneficiaries also pay income tax on drawdowns from the inherited pension. Defined Benefit (DB) pension death benefits (survivor pension + discretionary lump sums): OUTSIDE the estate — NOT affected by the April 2027 reform.
What is the AIM-ISA IHT strategy?
The AIM-ISA strategy combines two significant tax benefits: (1) ISA wrapper: investments grow income tax and CGT-free during life. (2) Business Property Relief (BPR — s105(1)(bb) IHTA 1984): AIM shares in qualifying trading companies (held ≥2 years) qualify for 100% BPR — making them IHT-free on death (subject to the £1m combined BPR/APR cap introduced by Finance Act 2026). By holding qualifying AIM shares in an ISA, the investor gets both benefits simultaneously — income/CGT-free during life AND IHT-free on death. Finance Act 2026 impact: first £1m qualifying BPR assets (across ALL BPR assets in the estate): 100% IHT-free. Above £1m: 50% BPR (20% effective IHT rate). AIM-ISA portfolios must hold qualifying AIM shares for ≥2yr at date of death. AIM shares carry higher risk than mainstream equities. Specialist advice essential.
How does the April 2027 pension reform change IHT planning?
Finance Act 2024 brings unspent DC pension funds into the IHT estate from 6 April 2027. Before April 2027: DC pensions were the most IHT-efficient savings vehicle (outside the estate on death). After April 2027: DC pensions are in the estate at 40% IHT above NRB — AND income tax applies if the member was 75+ (effective combined rate up to 64%). Planning changes: (1) Draw down pension funds rather than preserving them — spend the drawdowns or make lifetime gifts (PETs) to start the 7yr clock. (2) ISA vs pension equivalence shifts: pensions retain income tax relief on contributions (valuable at 40-45% higher rate) but lose the IHT death advantage. (3) AIM-ISA becomes more attractive vs DC pensions for IHT planning. (4) Life insurance in trust provides a death benefit outside the estate — filling the gap left by pensions. (5) Expressions of wishes for pensions should still be kept up to date (for the administration process, even though IHT will apply post-April 2027).
What is the Additional Permitted Subscription (APS) for ISAs?
The Additional Permitted Subscription (APS) is a rule that allows a surviving spouse or civil partner to inherit the deceased spouse's ISA tax wrapper. When a spouse dies: the surviving spouse can subscribe an additional amount into their own ISA equal to the value of the deceased spouse's ISA — on top of their normal annual ISA allowance (£20,000 for 2026/27). This preserves the income tax and CGT-free status of the ISA funds going forward. IMPORTANT: the APS does NOT affect IHT. The deceased spouse's ISA is still included in their estate for IHT. The APS is a benefit that runs alongside the estate administration — it allows the money (once released from the estate and the IHT paid) to be reinvested in the surviving spouse's ISA maintaining its tax-sheltered status. The APS can be used even if the ISA assets are paid out from the estate first, then reinvested by the surviving spouse. Deadline: the APS must be used within 3 years of the deceased spouse's death (or 180 days after administration of the estate, if later).
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