We’re in full Budget season, and speculation will swirl until 26 November 2025. One rumour currently causing concern is whether the Government might cut or remove the 25% tax-free pension lump sum. Our Tax Specialist partners, Forbes Dawson, have written about this topic and explored whether withdrawing your pension lump sum early is a wise move or a reaction to uncertainty.
The issue
If this rumour turns out to be true, it could be an easy win for the Government. It would:
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Target higher earners.
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Stop people from moving wealth out of the inheritance tax (IHT) net, since pensions will become subject to IHT from 6 April 2027.
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Be relatively straightforward to implement.
However, the policy would also affect many ordinary savers, not just the wealthy. To soften the impact, the Government could reduce the tax-free limit, for example to £50,000, rather than removing it entirely.
As a result, many people are rushing to take their tax-free pension lump sums before the Budget, hoping the Government won’t apply any changes retrospectively.
Does withdrawing your pension lump sum early make sense?
Financial experts are urging caution. Withdrawing your pension lump sum means removing money from a tax-free environment where it can continue to grow, which could affect your long-term returns. On the other hand, the potential removal of the 25% tax-free allowance is a worrying prospect for many savers.
If you are considering taking your lump sum, it’s important to make sure the money continues working for you. Possible strategies include:
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Spending it sensibly – money you spend on yourself isn’t subject to inheritance tax.
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Gifting to children or family members – as long as you live for seven years after the gift, it will generally fall outside your estate for IHT purposes.
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Reinvesting into ISAs – couples can invest up to £40,000 per year between them, gradually rebuilding their tax-free savings.
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Helping children fund their own pensions – contributions made from earned income receive tax relief, though future rule changes are possible.
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Relocating strategically – some countries have more favourable pension tax treaties, though this can be complex and should be approached with care.
Final thoughts
Even before the proposed IHT changes, there were valid reasons for some individuals to extract their pension lump sums and carry out further tax-efficient planning. For example, beneficiaries may still face income tax when drawing down inherited pension funds after the member’s death (if over 75).
Withdrawing a lump sum can therefore help reduce future income tax liabilities and manage inheritance tax exposure if the funds are spent or gifted more than seven years before death.
However, people shouldn’t rush to withdraw lump sums purely based on Budget speculation. Instead, it’s worth asking whether doing so aligns with your broader financial and estate planning goals.