The last tax year (2018-19) saw HMRC collect more than £5.4bn in Inheritance Tax (IHT), compared to £5.2bn during 2017-2018. In fact, between 2010 and 2018 IHT receipts almost doubled across the UK, due in part to the basic tax threshold, called the ‘nil rate band’, being frozen since 2010 at £325,000.
In real terms, that means you only need to be living in a modest property in the south east of England to fall into the net of 40% inheritance tax on the value of your estate over £325,000. There are, however, some exemptions:
- Spouse/Civil Partner: Generally, there is no IHT between spouses or civil partners (provided they are both either English domiciled or both non-domiciled – domicile is tricky so if this is an issue, take advice!). The NRB can be transferred over from one spouse to the other – so a total of £650,000. However, if you are not married or in a civil partnership, then regardless of how long you have been together or whether you have children, there is no legal recognition of this and thus no exemption. Whilst this isn’t the most romantic of reasons to tie the knot, it is a sensible one.
- Charity: Gifts to UK or EU charities in your will pass IHT free. However, if the charity is outside of the UK or EU, the exemption might not apply (again, take advice!).
There are other reliefs that reduce the inheritance tax payable on your estate. The main reliefs are:
- The Residence Nil Rate Band: The residence nil rate band (RNRB), is a further £175,000. However, there are conditions for this to apply:
– owning (at some point) a property that is your residence; and
– benefiting your direct descendants (so children and grandchildren but also, interestingly, stepchildren). If you don’t have children, unfortunately this relief will not apply.
– If your estate exceeds £2m however, this relief will taper off.
- Charity: If you leave at least 10% of your estate to charity, as well as the gift itself passing IHT free, then the rate of tax on the rest of your estate is reduced to 36% rather than 40%.
- Business assets: If you own a trading business or shares in a trading business then you can claim relief on the value at either 50% or 100%.
As well as the above, there are ways that you can plan to reduce IHT on your estate in your lifetime:
- Gifts: Gifts of £3,000 in total per year and smaller gifts of £250 (although not to a £3,000 recipient).
- Larger gifts: Larger gifts can also be made, but you need to survive by seven years for the gift to be outside of your estate. You don’t need to report the gift formally but do need to keep records of gifts made.
- Income gifts: Gifts out of surplus income, although it is vital to keep detailed records in each tax year to show the income is surplus.
- IHT insurance policies: Even if you can’t avoid IHT entirely, you might be able to cover the cost with a life policy taken out to pay the tax.
- Existing insurance policies, pensions and death in service benefits: If these are written under trust or nominated, then they will pay out IHT free. This can be overlooked, so do check!
When making gifts, the person gifting must not retain any kind of benefit (this is called a ‘gift with reservation of benefit’). E.g. you can’t gift your house but continue to live there as the gift will fail – unless you paid a market rent, say, to live there. Clients also often ask if trusts can save IHT. A trust itself is just a ring-fence around a gift and doesn’t necessarily save IHT. Trusts do have a lot of benefits – but it is essential to take proper advice.
Most IHT reliefs aren’t automatic and must be claimed. Therefore, if you are planning in your lifetime or writing your will, take advice! Bear in mind that if your executors deal with probate themselves rather than through a solicitor, this could mean that the estate misses out on reliefs that will reduce the IHT payable on your estate.