UK Budget 2026: what does it hold for pension scheme trustees and employers?

The UK chancellor's Budget on 28 October delivered no new landmark pension reforms. There were, however, a number of changes that have implications for pension scheme  trustees, employers and scheme administrators.

No more two-year rule for payment of lump sum death benefits

The upcoming Finance Bill (2026-27) will change the law so that, for payments made on or after 28 October 2026, lump sum death benefits will no longer attract income tax or a "special lump sum death benefits" tax charge simply because they were not paid within two years of when the pension scheme administrator first knew, or could reasonably have been expected to know, of the member’s death. 

Tax will still apply if the member's lump sum and death benefit allowance is exceeded or the member dies after reaching age 75. The standard lump sum and death benefits allowance is currently £1,073,100. It is a cap on the total amount that can be paid as tax-free lump sums, from registered pension or death-benefit-only schemes, to a member during their lifetime or to other people after the member's death.

The two-year limit is "also being removed where beneficiary annuities are paid from the deceased member’s drawdown funds and where funds are designated for a UK resident under a pension scheme outside the UK."

The government says the  change is intended to make the tax system fairer and administratively less burdensome. It recognises that, in most cases, one party,  either the scheme administrator or the beneficiaries, will have no control over the delay.

Change to the test for payment of a serious ill-health lump sum

As announced ahead of the Budget, the upcoming Finance Bill will change the law to allow a serious ill-health lump sum to be paid where the pension scheme member can be reasonably expected to live for less than one year. The Finance Bill will also amend the definition of a registered medical practitioner to allow a medical practitioner based outside the UK to provide medical evidence of a terminal diagnosis if the scheme member is living in the country where the practitioner practises medicine.

Currently, a member can only ask for their pension benefits to be paid in the form of a one-off lump sum (called a serious ill-health lump sum) if a medical practitioner, registered under UK law, provides written evidence that they are expected to live for less than one year. The new test is intended to be more flexible and closer to the test used to access social security benefits.

Income tax where lump sum death benefit allowance exceeded 

The upcoming Finance Bill will also include legislation to change the way HMRC assesses and collects the income tax due where a deceased member’s lump sum death benefit allowance has been exceeded. 

The income tax due on lump sum death benefits in excess of a deceased member's lump sum and death benefits allowance must be paid by the people who receive the lump sum (the beneficiaries). 

At the moment, the way HMRC has to charge this tax can result in the tax and income-related benefits position of a beneficiary in the tax year in which they received the lump sum benefit being reopened several years later. Under the new rules, HMRC will calculate a standalone charge to income tax at the beneficiary's marginal rate (the highest rate of income tax they pay) which will not have any effect on past tax or benefits assessments.

This change will have retrospective effect for lump sum death benefits paid on or after 6 April 2024. Transitional provisions will apply the same approach to relevant payments made in the 2023 to 2024 tax year. Changes concerning the interaction with inheritance tax where inheritance tax and income tax are due on the same benefit will have effect from 6 April 2027.

Surplus payments to members

As announced at Autumn Budget 2025, the upcoming Finance Bill will also change the law to allow defined benefit (DB) occupational pension schemes to make one-off payments of surplus to members where certain conditions are met. At the moment, such a DB payment would be an unauthorised payment and attract penalty tax charges. This change will have effect for payments made on or after 6 April 2027.

Inheritance tax and pensions

There was no reprieve on this measure. Instead, the chancellor confirmed that the upcoming Finance Bill will "allow a prospective personal representative to direct pension scheme administrators to pay the inheritance tax due to HMRC when certain conditions are met" and "the government will also introduce legislation allowing those administering an estate to decide whether notional pension property included in the ‘general’ component of the estate or as a separate component for the purposes of calculating the reduced rate of inheritance tax when part of the estate is left to charity."

Local Government Pension Scheme and SDLT

The chancellor also confirmed that the upcoming Finance Bill will change the stamp duty land tax (SDLT) rules so that acquisitions of land and property made by Local Government Pension Scheme (LGPS) asset pool companies from LGPS member funds are subject to SDLT relief. This change is expected to apply to transactions with an effective date on or after 28 October 2026 and before 1 April 2032.

Defined contribution and collective defined contribution 

Investment in the UK economy, infrastructure and start-ups remains a priority. The government confirmed that further changes will support the reforms under the Pension Schemes Act 2026. Those reforms aim to encourage a shift to a defined contribution (DC) landscape of fewer, larger schemes to better offer value for money and potentially improve retirement outcomes through investment in private markets. 

These will include measures to enable the consolidation of DC schemes and the introduction of the "guided retirement" framework and retirement-only collective DC (RCDC) pension schemes. The government stated: "This will include expanding the circumstances when a member may keep certain protections following a transfer and allowing members to transfer from an RCDC pension to a drawdown arrangement within a set timeframe. This will be introduced through Finance Bill 2027-28."

The State Pension: a new tax allowance

The chancellor also confirmed a new pensions tax allowance. This will be an income tax reduction for people who are above State Pension age, or who reach State Pension age in a particular a tax year, to prevent them from having to pay income tax just because of increases in the State Pension.

People whose total income from any source is equal to or less than the amount of the full new State Pension, will have an allowance of 20% of the difference between the full State Pension and the income tax personal allowance in a particular tax year. For people whose total income is slightly above the full new State Pension, the allowance will taper: for every £3 of income above the full State Pension, the Pensions Tax Allowance will reduce by £1.

The allowance will apply from 6 April 2027 until 5 April 2030 and, in the tax years 2028-29 and 2029-30, will be uprated in line with the full new State Pension. It will be legislated for in the upcoming (2026-27) Finance Bill. The government will consider what should happen after April 2030 in due course.

Changes to the triple lock from 2030

The triple lock, under which the State Pension rises each year by the highest of 2.5%, inflation or earnings growth, will continue to apply until April 2029.

From April 2030 a revised version will apply and the State Pension will rise each year by the highest of 2.5%, inflation, or the amount required to maintain its value relative to earnings as reached in April 2029. 

The savings generated by this change will help to fund a preventative National Care Service in England to provide older people with personal care free at the point of use. 

Pensions Commission: final report in 2027

It was confirmed that the Pensions Commission will publish its final report, as part of the second phase of the government's pensions review, in February 2027.

The report will set out recommendations to ensure that the private pensions system delivers retirement outcomes that are adequate, fair and sustainable. (The first phase of the review underpins many of the reforms being made under the Pension Schemes Act 2026.) 

Surplus in the Mineworkers' Pension Scheme

The chancellor confirmed that the surplus sharing arrangements in the Mineworkers’ Pension Scheme and British Coal Staff Superannuation Scheme are being changed so that members receive all of the surplus generated from scheme performance. The government will also work with the trustees toward full transfer of the remaining Guarantor’s Fund.

Osborne Clarke comment

The draft Finance Bill when it is published will provide further detail on how the most immediate measures will affect trustees and employers.

For trustees, the removal of the two-year rule and the change to the serious ill-health lump sum test raise practical questions to discuss with scheme administrators and legal advisers, in order to agree how they affect day-to-day administration practice, whether any amendments to scheme rules are needed, and whether member communications should be updated. This may also be a good opportunity to take legal advice on which scheme benefits will be affected by the April 2027 changes to inheritance tax and pensions, and whether those changes support a review of scheme rules which give the trustees discretion to decide who should receive a lump sum death benefit.

Employers who are also trustees of death-in-service schemes may wish to discuss the removal of the two-year rule with their legal advisers and consider whether any changes are needed to the scheme rules or member communications.

The removal of the two-year rule only eliminates the tax charges triggered when a lump sum death benefit is paid more than two years after a member's death. Delays in making payment could still give rise to a complaint of maladministration and, where inheritance tax is due on the death benefit, unnecessary interest on that inheritance tax. As a general rule, inheritance tax must be paid by the end of the sixth month after the date of death, and interest will begin to accrue after that point.