116,000 People Took Their Pension Lump Sum at 55 Last Year — They Know Something You Don't

Under current rules, defined contribution pensions sit entirely outside your estate for IHT. Die before 75, your beneficiaries inherit the pot tax-free. Die after 75, they pay income tax on withdrawals but zero IHT. It's the single most generous tax treatment of any UK asset — and it's why so many financial planners have spent years telling clients to leave their pension untouched as long as possible.

The Autumn Budget 2024 changed everything. From 6 April 2027, unused pension funds count towards your estate's value for IHT. The nil-rate band is frozen at £325,000 (£500,000 with the residence nil-rate band). Every penny above that threshold faces 40% tax.

A worked example makes the scale clear. You have a £500,000 pension and a £300,000 house. Your estate totals £800,000. After the £500,000 combined nil-rate band, £300,000 is taxable. Your family owes £120,000 in IHT — on pension money that would have passed completely free under today's rules. For context, the average UK house price is £299,677 according to Halifax as of March 2026, so a modest pension plus a home is enough to breach the threshold.

If you're a higher-rate taxpayer paying 40% on income above £50,270, you need to be especially strategic about how you extract these funds. Our tax planning hub covers the full picture of allowances and reliefs available in 2026/27.

The pension commencement lump sum lets you withdraw 25% of your pension tax-free, up to £268,275. This money leaves the pension wrapper immediately and can be gifted, invested in ISAs, or used to pay down a mortgage — all of which either remove it from your estate or put it to better use.

Take a £400,000 pension. Your tax-free lump sum is £100,000. Gift that to your children today, survive seven years, and it's outside your estate entirely under the seven-year rule. You've just saved your family £40,000 in IHT at zero income tax cost to you.

Alternatively, put £20,000 into a stocks and shares ISA each year. ISA returns are tax-free, and while ISA assets do fall within your estate, you've converted pension money (taxable on withdrawal beyond the 25%) into ISA money (tax-free on growth and income). For a higher-rate taxpayer drawing down above their personal allowance, the annual income tax saving alone is worth £4,000-£8,000. Over five years of maximum ISA contributions, that's £20,000-£40,000 in tax saved — money your family keeps rather than HMRC.

A couple can shelter £40,000 per year between two ISA allowances. Over five years, that's £200,000 moved from a pension wrapper (now IHT-liable from 2027) into ISAs (always IHT-liable, but growing tax-free with no income tax on withdrawal). The net position improves because you've eliminated the income tax layer entirely. See our ISA guide for how to maximise the 2026/27 allowance.

The 116,000 people who withdrew at 55 in 2024/25 understand this arithmetic. They're not spending the money on holidays — they're restructuring their wealth before the rules change.

Critics say withdrawing early sacrifices compound growth inside the pension. They're right in theory, wrong in context.

At the current Bank of England base rate of 3.75%, a balanced pension fund might return 5-7% annually. But you're not comparing pension growth against zero — you're comparing it against growth in an ISA wrapper, or against the guaranteed 40% IHT saving from gifting.

A £100,000 lump sum left in a pension for 10 years at 6% grows to £179,000. At 40% IHT, your family receives £107,400. The same £100,000 gifted today (surviving seven years) and invested in a stocks and shares ISA at the same 6% return grows to £179,000 — and your family keeps all of it. That's a £71,600 difference in what your children actually receive.

The compound growth argument only wins if you assume zero IHT — which is exactly the assumption the April 2027 changes destroy. And this calculation ignores the annual income tax saving from holding investments in an ISA rather than a pension. Every dividend, every realised gain inside the ISA is completely tax-free. Inside the pension, every penny withdrawn above the 25% is taxed as income.

For those with pension pots in the £300,000-£500,000 range — the band where IHT planning becomes relevant — the numbers overwhelmingly favour restructuring. Our pension hub has more on how drawdown and SIPP management interact with these tax changes.

The biggest risk of early pension withdrawals isn't losing growth — it's paying unnecessary income tax. Withdraw £100,000 in a single tax year and you'll push yourself into the 40% or 45% band, losing a huge chunk to HMRC.

The tax-free 25% solves the first £268,275. Beyond that, the strategy is phased drawdown. Use your personal allowance of £12,570 each year. If your only income is pension drawdown, you can withdraw £12,570 plus your 25% tax-free element — roughly £16,760 — without paying a penny of income tax.

Over 10 years, that's £167,600 extracted from your pension at an effective tax rate of 0%. Gift it annually under the "gifts out of surplus income" exemption (an IHT exemption most people don't know about), and it's immediately outside your estate — no seven-year wait required. This exemption is underused partly because people don't know about it, and partly because it requires documentary evidence that the gifts come from genuine surplus. Keep records.

For higher-rate taxpayers earning above £50,270, the numbers change. You'll need to manage your total income across state pension (£12,548/year at the full new rate), any employment earnings, rental income, and pension drawdown. The interaction between these income sources determines whether phased drawdown is tax-efficient. Our savings hub covers the broader picture of where to park money tax-efficiently.

This is the Optimizer's playbook: take the tax-free cash now, begin phased drawdown, use every allowance and exemption available. The people panicking are making mistakes. The people planning are saving their families six figures.

This strategy makes most sense if you:

• Are aged 55+ with a pension pot above the nil-rate band threshold
• Have other income sources (state pension, rental income, other savings) that mean you won't need your pension to live on
• Have beneficiaries who would face 40% IHT on your estate
• Can gift the lump sum and survive seven years (actuarially likely if you're 55-65 and in reasonable health)

It makes less sense if your pension is your only retirement income, if your total estate is below £500,000 (where the combined nil-rate band shelters everything), or if you're in poor health and the seven-year clock is uncertain.

But for the estimated 4% of estates that will be affected by the pension IHT change — roughly 38,500 families per year according to HMRC's own forecasts — the lump sum withdrawal is the single most effective first step. The 116,000 who already moved aren't early. If anything, they're only just in time.

For the opposing argument — that pension raiding for IHT reasons is almost always a mistake — read why you shouldn't raid your pension to dodge inheritance tax. For the full picture on inheritance tax thresholds and allowances, see our IHT guide. Our pension drawdown guide explains exactly how phased withdrawals work.

This article is for informational purposes only and does not constitute financial advice. You should seek independent financial advice before making any investment decisions.