Pension providers have welcomed reforms to a ‘death tax’ that had previously applied to untouched pension pots for those over-75s.

The 55 per cent tax applied to the untouched ‘defined contribution’ pension pots of those 75 and over, and also to those pensions where money had been partially withdrawn.

The changes, expected to be announced at the upcoming Tory party conference, are likely to be introduced from April 2015. Under the new rules, if a pension saver dies aged over 75, their beneficiaries will receive the funds free of tax as long as they keep them in a pension. If they draw on the pension, they will only pay tax at their marginal rate.

John Fox, director of the pension provider Liberty SIPP, says the measures are more than a quick headline-grabber: “It is the final stage of a set of pension reforms that together are nothing short of revolutionary. The pension industry is steadily being reborn – forced to develop new products and jettison years of hidebound complacency – and savers are changing the way they see pensions.

“The combination of the freedom to do what they want with their pension pots – and the reassurance that anything they don’t spend in retirement can be passed on to their loved ones – will encourage more to save harder.”

He believes the measure will deliver another blow to the annuities industry: “The abolition of the pernicious 55 per cent ‘recovery charge’ on unspent pension pots will make many more people look at alternatives to the annuity orthodoxy – such as drawing down their pension savings gradually.” He says it will also torpedo many of the offshore schemes set up to get round current tax rules, making it likely that more pension money will be kept onshore.

Chris Williams, CEO of Wealth Horizon says that the policy is a step in the right direction, but will only affect a relatively small number of people: “Only those who retire with defined contribution pensions and die before the age of 75, will actually be set to benefit from it…the Government needs to be looking to encourage more saving and investment in preparation for retirement. This is where the heart of the problem lies and unless it is addressed soon, policies like the one announced today simply won’t matter, as most people won’t even have a pension for the Government to tax.”

Alan Higham, Retirement Director, Fidelity Worldwide Investment says that this had been a poorly understood area that had inadvertently seen some inheritors paying huge sums of tax. He adds: “People will no longer have to choose between taking some tax free cash now or putting it off until later for fear of triggering penal death duties.

“It is particularly welcome that people who have already taken pension benefits will also benefit from the change, though those who have bought annuities will not benefit as their capital is usually lost on death.”

He believes it may make pensions more attractive as a long term savings vehicle relative to Isas, where the tax advantages are lost on death. He suggests the Government may look again at the ISA rules.

It raises the prospect that pensions could be passed onto grandchildren, who are likely to have an unused annual personal allowance. This would require relatively careful planning, and retirees would need to be sure that they made a will. Higham says that people should reconsider their existing will in light of the changes.

Nicholas Oliver, divisional director of financial planning at wealth manager Brewin Dolphin, says the new measure should also make people think more closely about how they ‘drawdown’ from their accumulated funds, knowing that beneficiaries will be able to inherit their fund as a pension without any punitive taxation: “With the previous tax regime, the balance of the argument led more to people de-cumulating their pensions at too fast a rate, as it was often more favourable to do this than leave the fund as a pension subject to 55 per cent tax.”

The new rules remove another impediment to pensions savings and are part of the wider revolution in the pensions industry. Most people saving for retirement won’t need to take action, but can be reassured they do not need to fear this particular tax charge once the time comes to draw on their pensions.