Inheritance Tax planning – minimising liability
Inheritance Tax (IHT) can run into hundreds of thousands of pounds when you die. By undertaking tax planning in your lifetime, you could potentially significantly reduce the amount of IHT payable on your death and in some cases could pay no IHT at all.
By way of background, IHT is a tax on the estate of someone who dies. The amount of IHT payable depends on the value of your estate at your death – that is the value of your assets (money, property, personal items etc.) minus any debts and liabilities (loans, credit cards, mortgages etc.).
IHT can also arise on certain gifts made in your lifetime. IHT may be payable on gifts made within 7 years of someone’s death. This is mainly to catch out people who try to avoid IHT by giving away their wealth shortly before they die. If you survive the gift by 7 years, the value is not included in your estate when you die. If you were to die within 7 years, the value of the gift has the effect of eating into your nil rate band.
Currently, every individual has a ‘nil rate band’ of £325,000 which is the amount that you can give away on your death tax free. Anything above this threshold will be taxed at 40%.
Some people will also benefit from the additional ‘residence nil rate band’ which was introduced in the 2017/2018 tax year. This is currently £175,000 and is available if you own a property which you intend to leave to your direct descendants (i.e. children or grandchildren).
So what can you do to minimise your IHT liability?
One major way in which you can plan for your future is through your Will. You may not have a Will, it might be out of date or fail to take advantage of tax planning.
If you are married or in a civil partnership, you are able to leave your entire estate to your spouse tax free. On the death of the second spouse, their estate will be able to claim their spouse’s unused nil rate band allowances, meaning they could potentially give away up to £1m tax free.
Furthermore, if you intend to leave a certain amount of your estate to charity, your estate could benefit from a lower rate of IHT (36%).
Trusts can be set up either in your lifetime or by your Will.
Trusts can have the benefit of taking the value of the assets that you put into the trust out of your estate, whilst enabling you to maintain some control over the assets.
Other tax charges may be incurred so advice should be sought before entering into any trust arrangements.
If you have amassed a large amount of savings during your lifetime, you may come to a point where you have more capital than you reasonably need. In order to reduce the value of your estate when you die, you can take advantage of a number of exemptions relating to gifting.
Each tax year, you are able to give away £3,000 free of tax without having to survive this gift by any length of time. You can carry forward a maximum of one year’s allowance if this has not already been used. These gifts should come from savings, rather than income.
You can make larger gifts (over £3,000), but for these to be left out of your estate when you die, you will need to survive by 7 years from the date of the gift. If you were to die within the 7 years, the exemption may be tapered depending on how long you survived by.
Smaller gifts of £250 can be made to as many different individuals as you wish per tax year. These gifts cannot be made to the same person who received the £3,000.
If a child or grandchild is getting married, you are able to make a tax free gift of £5,000 or £2,500 respectively. For any other person, if you are feeling generous, it is £1,000.
Gifts to charities and political parties are exempt for IHT.
You may be receiving multiple pensions, or be earning a decent wage and have excess income. If your income exceeds your outgoings, you are able to make regular gifts out of income free of tax. After your death, your executors will need to show that the gifts qualify for this exemption. Keeping proper records is therefore vital if your executors are to successfully claim this exemption.
If there are certain types of asset in your estate, relief may apply to reduce the amount of IHT payable on those assets, sometimes to nil.
Business owners, farm owners or those with agricultural land may benefit from relief from IHT if certain conditions are met.
You can also consider investing in certain types of companies or assets which attract tax relief in order to reduce your IHT liability.
Gifts with reservation of benefit
Something we are frequently asked is if you can hand over your house to your children now to avoid paying care fees and reduce the value of your estate.
Unfortunately this will not work for IHT purposes. If you continue to live in the house after you have transferred it to someone else, this will be a “gift with reservation of benefit” and will be included in valuing your estate for IHT purposes on your death.
There are certain ways in which you may be able to transfer your property in order to reduce your IHT liability and our Private Client team can advise you on this.
Tax planning is something to be considered by all of us at some stage of our lives. If you would like any further information or would like to arrange an appointment to discuss anything further, please contact a member of the Private Client team on 01276 686222.
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This reflects the law at the date of publication and is written as a general guide. It does not contain definitive legal advice, which should be sought as appropriate in relation to a particular matter.
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