Retirees across the UK are set to receive a significant boost to their state pension payments next year, but financial experts warn the increase comes with a hidden sting that could leave families facing larger tax bills.
The Upcoming Pension Increase and the Fiscal Drag
The Department for Work and Pensions (DWP) has confirmed that both the basic and new State Pensions will be uprated by 4.8% from April 2026. This rise is in line with the annual increase in the Average Weekly Earnings (AWE) index measured between May and July 2025.
This means the full new State Pension, for those who reached pension age on or after 6 April 2016, will increase from £230.25 to £241.30 per week. Over a full year, this represents a substantial rise of £574. Those on the basic State Pension will see their weekly amount grow from £176.45 to £184.90.
How a Pension Rise Can Lead to Higher Inheritance Tax
While the extra income is welcome, estate planning specialists highlight a significant unintended consequence. George Williamson, an Estate Planning expert at Level Group, explains that while the pension itself stops upon death and doesn't form part of an estate, the increase exacerbates a problem known as 'fiscal drag'.
"The state pension rise... doesn't add to your estate itself, as payment stops when you die, but it does highlight a fiscal drag problem and have an indirect impact on Inheritance Tax (IHT)," said Mr Williamson.
The core issue is that both income tax and inheritance tax thresholds are frozen until 2030. As pensioners receive higher payments, more will be pulled into paying income tax. This, in turn, can reduce their ability to spend or gift money during their lifetime, potentially resulting in a larger estate value upon their death. Consequently, more individuals could find their estates breaching the frozen IHT threshold, currently £325,000, leading to a 40% tax charge on the excess.
The Critical Need for Proactive Estate Planning
This looming issue underscores the vital importance of forward-thinking financial management. Mr Williamson stressed that estate planning is essential to ensure an individual's wishes are honoured and their loved ones are protected.
"It is a topic that many put off and avoid, but delaying estate planning can come at a high cost," he cautioned. "Sometimes it can be too late, leading to probate, family disputes, confusion and assets being divided by law and not the wishes of those who pass."
The combination of rising pension income and static tax allowances creates a perfect storm for retirees. Experts are urging those affected to seek professional advice to review their financial arrangements, consider potential IHT liabilities, and explore legitimate planning measures to safeguard their wealth for future generations.
