Inheritance tax (IHT) is one of the most hated taxes – as many as one in four people consider it their least favourite according to a recent survey, making it more unpopular than income tax, national insurance, and VAT.
However, it’s a tax that more and more of us need to be aware of. This is because rising property prices mean that more people will be subject to it - it’s no longer just the super wealthy who will be affected.
The good news is that with careful planning, it’s possible to reduce both the cost of IHT and the complexity of your estate, so that your loved ones’ inheritance is preserved.
However, simple planning undertaken without sufficient tax and legal advice can result in unintended tax consequences.
So here we’re going to introduce you to the basics of inheritance tax and provide you with an overview of the key considerations to help you decide the most appropriate inheritance strategy to suit you.
IHT is a levy charged on the estate of a deceased person before any of their assets can be passed on to their family and loved ones.
If your estate is valued above the current IHT threshold of £325,000 (the ‘nil rate band’) anything above that will be taxed at 40% when you die. There’s an additional £175,000 that can be added to the nil rate band if a main residence is passed down to ‘direct descendents’. This is known as the ‘residential nil rate band’.
Your ‘estate’ might sound very grand, but it refers to the value of your assets, which can include cash in the bank, investments, property, vehicles and payouts from life insurance plans. Therefore £325,000 can soon mount up, which is why, increasingly, IHT planning isn’t just for ultra-wealthy people.
The good news is that, with a little forward planning, we can help you minimise or even avoid paying any IHT altogether. These are our recommended steps:
When making plans for your estate, one of the most important steps is to make a will.
Even if you’re not looking to avoid IHT, having a will is a great way to ensure that you have peace of mind knowing your assets will go exactly to who you’d like them to.
Most importantly, making a will can provide clarity to your family in a time of loss and confusion.
If you die without a will, you die ‘intestate’, which means your estate may be divided according to the court’s wishes rather than your own. It can also delay the full transfer of your estate for months, even years.
It’s also important to make sure your will is updated to make sure that it keeps pace with changes in your life. Has anyone in your family recently married or had children for example?
Alongside keeping an up-to-date will, it’s important that your family know where to find it. They need to know how to contact your solicitor, if that’s where it is stored, particularly if he or she is your executor responsible for producing and implementing your will.
Whether it’s making donations to charitable organisations or gifting assets to close family members, gifting can be a powerful way of reducing the value of your estate for IHT.
Gifts in your will reduce the rate of IHT payable from 40% to 36% if they represent more than 10% of your estate.
Everyone is entitled to make a £3,000 gift each tax year, which is considered immediately outside of your estate for future IHT calculation purposes. You could use these gifts to set up pensions for children or grandchildren for example.
A gift in respect of a wedding is also treated in the same way. Up to £5,000 can be gifted to a child in this way, up to £2,500 for a grandchild and £1,000 to a different relative or friend.
Something else worth knowing is that gifts can be made from surplus income without restriction, so if you have an income of £50,000 and can prove your outgoings are just £10,000 a year, then you can give away the remaining £40,000.
With additional gifts, timing is key. If you give assets away and you survive for at least 7 years, then those gifts will be free of IHT. If you die within 7 years then IHT will be paid on a reducing scale.
But you do actually have to give things away! You can’t give away your Picasso and keep it hanging on the wall, or give away your house and carry on living there without paying rent.
Whichever way you approach this, it’s important to keep a record to evidence the timing and nature of the gifts.
It’s also a good idea to set up a trust to protect the assets that you wish to leave to family members. Assets within a trust won’t form part of your estate on death. You could place assets into a trust for the benefit of your children when they reach 18 for example.
You might also want to consider taking out a life insurance policy designed to cover any potential IHT liability. This way your family won’t have to dip into their savings. You can also place this policy in a trust to make sure it’s paid outside of your estate.
One much more fun way of reducing your IHT liability is to spend your money! You can’t take it with you, so it’s also important to spend and enjoy it while you still can. This is true even if you have plans to give large amounts of your wealth to children or grandchildren.
Some people understandably worry about this – that they’re not going to achieve their goals, or they’ll run out of money in retirement.
It’s our job to look at the sums and put these worries to bed.
So if you have any concerns or questions about IHT and how to create the right balance between spending and saving your money, please speak to us.
You can book an online meeting with one of our advisers at your convenience here.
