Get expert guidance on Inheritance Tax planning
We are often asked to advise clients on how to mitigate Inheritance Tax. It is an important consideration when thinking about estate planning and we are particularly keen to ensure that these matters are considered as a whole and not looked at in isolation.
We will always like to discuss with our clients all aspects of their affairs, from complex business arrangements to adult children in precarious situations who may need specific protection.
What is Inheritance Tax?
Inheritance tax is a tax paid on the value of any assets that form part of your estate on death.
How much you pay depends on the value of your assets (cash in the bank, investments, houses and contents, business, vehicles, payments from life insurance policies), minus any debts.
How much is inheritance tax?
The standard Inheritance Tax rate is currently 40%.
However, there is normally no tax to pay if either:
- The value of your estate is below £325,000 (which is known as the ‘nil rate band’)
- You leave everything over £325,000 to your spouse/registered civil partner (and he/she is domiciled in the UK) or to charity.
The 40% rate is reduced to 36% if you leave at least 10% of the net value of your estate to charity in your will.
Inheritance Tax is only charged on the part of your estate that's above the available threshold. So if your estate is worth £500,000 and your nil rate band allowance is £325,000 then the Inheritance Tax liability for the estate will be 40% of £175,000 (£500,000 minus £325,000).
The nil rate band allowance of £325,000 might be higher or lower depending on your circumstances.
When might the nil rate band allowance be higher?
From April 2017, there is an additional allowance of up to £175,000 if you leave your main residence to ‘lineal descendants’ (i.e. mainly children and grandchildren). This is known as the Residence Nil Rate Band Allowance.
Also, if you are a widow or widower and your late spouse/registered civil partner did not make use of his/her allowances (because for example everything was left to you) then his /her allowances can be transferred to you. This can mean the tax-free allowances can be as much as £1m in some cases.
When might the nil rate band allowance be lower?
If potentially exempt transfers i.e. gifts (see below) are made in the 7 years prior to death, then the value of these will reduce the amount of your allowance.
You can give away a total of £3,000 worth of gifts each tax year (6 April to 5 April) without them being added to the value of your estate. This is known as your 'annual exemption'. You can carry any unused annual exemption forward to the next year - but only for one year. You can also give as many gifts of up to £250 per person as you want during the tax year as long as you have not used another exemption on the same person.
Normal expenditure out of income
Where you have an excess amount of income each year and regularly make gifts from that excess but still have enough income to maintain a normal standard of living then the amount gifted is disregarded by HMRC for IHT purposes.
Normal expenditure out of income is a valuable exemption that helps mitigate inheritance tax. It can also be used eg to fund life policy premiums or regular pensions contributions for family members
Potential Exempt Transfers (and gifts into trust)
A Potentially Exempt Transfer (PET) is a gift you can make of an unlimited amount It will become exempt from Inheritance Tax (IHT) if you survive the gift for a period of seven years. This presents an important tax planning opportunity but you do have to ensure that you have enough money left for yourself. Any arrangement or understanding by which you can have the money back if you need it later will be considered by HMRC as a Gift with a Reservation of Benefit and will be ineffective for Inheritance tax.
If there are reasons why you would not want the recipient of a gift to receive assets outright, you may decide instead to put funds in trust for that person. This could still be a gift by you but you would be appointing someone to look after the assets given away for someone else. This can be useful if the recipient is;
- on means-tested benefits;
- vulnerable or
- having matrimonial problems.
Depending on the type of trust used, you may need to limit the amount given to avoid further tax charges.
Planning for Inheritance Tax
Many clients can benefit from a bespoke estate planning report outlining their current Inheritance Tax exposure and setting out any potential ways of mitigating the Inheritance Tax liability.
Some of the areas in which we advise clients include:
- Making gifts tax efficiently;
- Inheritance Tax planning when making Wills;
- Inheritance Tax planning post-death including deeds of variation;
- The Inheritance tax implications of setting up a trust.