Inheritance Tax (IHT) has come under the spotlight over the past few years, due largely to the continued rise in house prices. These days, you don’t have to be hugely wealthy to be affected by IHT. More people than ever before are calculating the value of their estates and finding they have a greater liability to IHT than they’d first thought. IHT can cost your estate thousands of pounds when you die; however, the good news is that expert planning can legitimately mitigate this tax, meaning you can pass on assets to your family as you’d intended.

What is IHT?

IHT is a tax payable on money, savings or any other assets you pass on when you die, and potentially on some gifts you make during your lifetime. The amount payable is calculated after debts and funeral expenses have been deducted.

Who Pays IHT?

When someone dies, the distribution of their estate will fall to their executors if they’ve made a Will, or their administrators if they die intestate. If the estate is liable for IHT, it is usually payable at 40%. Your executor will be responsible for paying the tax, which can only come from the deceased person’s estate with the prior agreement of HM Revenue & Customs. Once the tax has been paid, then the Grant of Probate can be made, allowing the assets or their proceeds to be distributed to the beneficiaries.

What is the Current Inheritance Tax Threshold?

The current threshold is £325,000 for an individual and £650,000 for a married couple or civil partners. Any unused portion of the nil-rate band can be passed to the surviving spouse or civil partner on death.

If one partner has already died, the survivor’s total allowance could be the full £650,000.

In response to the continuing rise in house prices, the government introduced an additional nil-rate band when a residence is passed on death to a direct descendant. This was introduced in April 2017.

How Does the Main Residence Nil-Rate Band Work?

This nil-rate band will apply if you want to pass your main residence to a direct descendant like a child or grandchild (including step, adopted or foster children). It’s important to note that as only direct descendants can benefit, not everyone will be able to rely on it for IHT planning purposes.

The nil-rate band for 2023-24 is £175,000. When added to the existing threshold of £325,000 this could potentially give rise to an overall allowance of £500,000 for those who are single or divorced, or £1m for those who are married or in civil partnerships.

However, it’s important to be aware that larger estates will find that residence relief is tapered; it will reduce by £1 for every £2 of value for estates valued over £2 million.

What is the 7-Year Rule, and How Does it Work?

To reduce the amount of IHT payable, many families consider giving their assets away during their lifetime. These are called ‘potentially exempt transfers’. The catch is that for these gifts not to be counted as part of your estate on your death, you must outlive the gift by 7 years. If you die within 7 years and the gifts are worth more than the nil-rate band, taper relief applies so that if you die say within 6 years, the tax will be less than if you were to die a year after making the gift.

Gifts must be outright, and you can no longer benefit from them. So, if you were to gift your home, but continue to reside there without paying a commercial rent, HMRC would consider this to be a ‘gift with reservation’ and include the value as part of your estate.

Can I Make Gifts That Are Automatically Free from IHT?

Yes, you can. Each financial year you can make gifts of up to £3,000 (in total, not per recipient) and if you don’t use this in one tax year, you can carry over any leftover allowance to the next year. If you do this, you have to use up all your allowance in that tax year, you can’t accumulate several years’ worth of allowance and use it up in a single gift.

Gifts of up to £250 per person per financial year to any number of people are exempt. Each parent of a bride or groom can give up to £5,000; grandparents or other relatives can give up to £2,500 and any well-wisher can give £1,000. Gifts to registered charities and political parties are also exempt from IHT.

There is another simple way of passing money to the next generation which allows for gifts to be made from surplus income. Conditions apply, and advice would be needed to ensure that the gifts are made in the right way.

How Are Assets Held Abroad Treated for IHT?

The UK’s tax system takes into consideration assets located in the UK and abroad, so IHT is levied on all your worldwide assets. This is a complex area of tax law and so advice is recommended.

Take Out Life Assurance

If you are concerned about the amount of IHT that may be payable on your estate, you could consider taking out a suitable life policy. Whilst it won’t reduce the amount of IHT that will be due on your estate, the payment from the policy could make it easier for your beneficiaries to pay the bill. You would need to have the policy written under trust to ensure that it doesn’t form part of your estate on your death.

Take Professional Advice

These days, many more estates are likely to be subject to IHT, so taking expert advice could save your beneficiaries substantial amounts of tax.

There are simple steps you can take to reduce the amount of tax due. For instance, it’s vital to have a valid Will in place; spouses and civil partners can transfer assets between them free of tax, but if you die intestate then IHT could become payable.

One thing is certain, if you feel that your estate is likely to be subject to IHT you should obtain in-depth professional advice that looks at all aspects of your requirements, lifestyle and goals and develops a financial strategy that meets your needs. If you could use some practical, no-nonsense advice, then please do get in touch.

Top Tips

Make a Gift Every Year

Don’t forget to maximise the use of your annual allowances; doing so can reduce the ultimate tax liability substantially.

Put Things into Trust

It’s worth considering putting some of your cash, investments or property into a trust (which you, your spouse and none of your children aged under 18 can benefit from) as they will no longer form part of your estate for IHT purposes. So, for example, you could put money into a trust to pay for your grandchildren’s education, or to provide support for a relative, to ensure that these are provided for after your death.

Leave Something to Charity

If the size of your estate means that IHT is likely to be payable, you can reduce the rate at which it is payable by leaving at least 10% of your net estate to charity.

Tax-free Savings for Individuals

• £5,000 tax-free dividend allowance from 6/4/16
• Standard lifetime allowance reduced from £1.25m to £1m
• Up to £1,000 of savings interest tax-free to basic rate taxpayers from 6/4/16 and £500 for those who pay higher rate tax
• New flat rate state pension from 6/4/16 of £155.65 if you reach state pension age after 6/4/16 (35 qualifying National Insurance years needed)
• Income tax personal allowance increased to £11,000 from 6/4/16
• From 2016/17 there will be one income tax personal allowance regardless of an individual’s date of birth
• From 6/4/16 the current AA of £40,000 will be tapered for anyone whose total ‘adjusted income’, including the value of any employer pension savings, is above £150,000. Their AA will be reduced by £1 for every £2 of adjusted income above £150,000, with a maximum reduction of £30,000

Dividends Above This Level Will Be Taxed At:

• 7.5% (basic rate)
• 32.5% (higher rate)
• 38.1% (additional rate)

ISA Allowances

• £15,240 ISA allowance
• £4,080 Junior ISA allowance
• £2,400* Help to Buy ISA

*+£1,000 one-off contribution when the account is opened

New Dividend Taxation from 6/4/16

• Pension Contributions Pension Annual Allowance (AA) Tapered from 6/4/16

Income Tax Allowances

• Personal Savings Allowance
• £1.25m to £1m Standard lifetime allowance reduced from 6/4/16
• State pension Capital Gains Tax Allowance
• £11,100 Annual personal CGT exemption
• £325,000 Nil-rate IHT band
• CGT levied at 10% for basic rate taxpayers or 20% for higher rate taxpayers*
• 40% IHT payable above this threshold or 36% if you leave at least 10% of your net assets to charity
• Additional main residence allowance introduced from April 2017

Chargeable Lifetime Transfers and Potentially Exempt Transfers Attract Taper Relief, If Made Up to Seven Years Before Death on the Amount of Gift Over the Nil-Rate Band

Other IHT-Free Gifts Include:

• Gifts between UK domiciled husband or wife or between civil partners;
• Total gifts up to £3,000 in a year (can be carried forward one tax year)
• Small gifts to other recipients up to £250 each in a year
• Gifts in consideration of marriage or civil partnership ranging from £5,000 from each parent of the couple, to £1,000 from anyone else