Inheritance tax is paid on your estate when you die. Before probate will be granted and your assets can be distributed to your designated beneficiaries, any inheritance tax owed must be paid off. Currently, any assets valued up to £325,000 can be passed on tax free and this is known as the nil-rate band. However, many people will build up assets that can be worth considerably more than this and amounts exceeding the nil-rate band are liable to an inheritance tax rate of 40%. Those inheriting the assets bear the liability to pay this tax. The use of inheritance tax planning allows people to legally reduce the amount of tax that will be applied to their estate when they die. Through careful planning, this can reduce the value that the estate is calculated at when the person dies. There are various methods that you can consider to reduce your liability and we look at some here.
Allowances
To maximise the best use of the nil rate band, everyone should look at their individual circumstances. Married couples and registered civil partnerships have a joint nil-rate band of £650,000 and can transfer any unused part of the nil-rate allowance to their surviving spouse upon their death.
A new residence allowance was introduced in April 2017, which is an additional nil-rate band above the £325,000 threshold in circumstances where residence is passed onto a direct descendant. This rate has increased year upon year since its introduction in 2017 and will continue to increase. The rates are as follows:
- £100,000 in 2017 to 2018
- £125,000 in 2018 to 2019
- £150,000 in 2019 to 2020
- £175,000 in 2020 to 2021
Thereafter, from 2021 to 2022, it will rise in line with the Consumer Prices Index (CPI). This rate will also apply to those that downsize or no longer own a home from 8 July 2015 but pass on other assets to their direct descendants.
To ensure that you are planning effectively, the first thing that should be done is to make sure that you have a valid and up to date Will that reflects your wishes. This should also enable your beneficiaries to benefit from the above rates.
Gifting
Another effective method of passing on assets and wealth is to do this during your lifetime as a gift. There is a £3000 limit on gifts each year that can be given without incurring any inheritance tax. Each tax year, you can also give away wedding or civil ceremony gifts of up to £1,000 per person. Certain relatives can give more for a wedding or civil ceremony gift, with parents being able to give £5000 to each of their children, grandparents giving up to £2500 per grandchild.
Charitable gifts and those to political parties are tax free and have no limit.
Other gifts can be tax free if they are made more than 7 years before your death. Where a person makes a gift but dies within the 7-year period, then there is a tapered relief rate. Within the first 3 years it is the full 40%, but this drops from here to 32% for 3-4 years, 24% for 4-5 years, 16% for 5-6 years and 8% for 6-7 years.
If something is gifted, then the person doing this cannot enjoy any benefit from it or make use of it. For example, if someone gifts their home but continues to live in it without paying rent to the beneficiary, then it is not seen as a gift and will be taxed accordingly.
Trusts
Trusts can be used to allow someone to control how their assets are used by future generations as well as ensuring that dependants are protected and if set up correctly, reduce inheritance tax liability. However, this is a complicated area and you need to ensure that you have obtained proper advice so that they are set up properly. As with gifts, if you die within seven years of making a transfer into a trust, then the estate will be liable to the inheritance tax rate of 40%.
It is also possible to use discounted gift trusts, which allows you to gift money to a trust and draw an income in your lifetime with the remaining money passing to an heir free of inheritance tax. This is regarded as an investment bond and allows for an income of up to 5% until death. Where the trust is set up seven years before your death then again, it will not be counted as part of the estate. If you die within that period, then the rate is reduced since the income that was being taken from the gift will have its worth.
Life Assurance and Pensions
Both of these can be used to maximise the tax efficiency of passing on your wealth. Where a person dies before their 75th birthday, they can leave any money in a money purchase pension to be paid as a lump sum or regular income for a beneficiary with no tax to pay. If the person dies after they turn 75, then the beneficiary is taxed at their marginal income tax rate. So long as the money remains as drawdown, it will not incur income tax and can be passed down to children, who in turn can pass it to their children etc. This can be a very tax efficient way to pass on wealth through generations.
Whole-of-life insurance policies can also be used to meet or reduce inheritance tax liability. Where it is written into a trust, the proceeds of such a policy are not included in a person's estate. The policy can then pay out to cover all or part of the inheritance tax owed.
Home Ownership
The way you own your home can also affect inheritance tax. In some cases, owning your home as tenants in common rather than joint tenants can make more sense. It allows each partner to own a specific share that can be left to someone else on death (for example, their children) as opposed to automatically passing to their spouse as is the case with joint ownership. This can reduce inheritance tax but does have its complications, and as with all methods, expert advice should be taken before making any decisions.
Contact Lewis Nedas Inheritance Tax Planning Solicitors, London
At Lewis Nedas, our specialist tax solicitors are regularly involved in helping clients organise their estate, to reduce its liability to pay inheritance tax. We provide a service that offers legal advice reflecting your needs. Our team understand and have vast experience navigating the complex and changeable legal framework concerning tax. We will work with you to make sure you understand how the tax laws will impact you, and discuss the options that would suit your particular circumstances. If you have any questions regarding estate planning or inheritance tax issues, please contact us.
For further information or to speak to our solicitors please telephone us on 02073872032, complete our online enquiry form.
