Your legacy may not be as much as the Pharaohs’ but by planning now, your beneficiaries will be set to inherit as much of it as possible.
Insurance company NFU Mutual recently analysed HM Revenue & Customs receipts, finding that the average Inheritance Tax bill for the year 2018/19 was £199,000.
The standard Inheritance Tax rate is currently 40 per cent, which can result in a substantial bill for many estates. By taking tax planning action in advance, it is possible to legitimately reduce the amount payable.
The Inheritance Tax threshold
No Inheritance Tax is payable on the first £325,000 (assuming there were no chargeable gifts before death) of any estate, known as the nil-rate band. This allowance is also transferrable to a spouse or civil partner if it is not used, meaning that a couple will have a total nil-rate band of up to £650,000. There is no Inheritance Tax payable if you leave everything to your UK domiciled spouse or civil partner or to a charity, qualifying political party or a community amateur sports club.
The residence nil-rate band
In addition to the nil-rate band, there is also a property allowance available, meaning that you can pass your home (even a former home) or share of it to a direct descendant (a child or grandchild) to attract up to an extra £175,000 free of tax. As with the nil-rate band, a spouse can pass on any unused allowance to their surviving spouse, giving married couples or civil partners the chance to pass on property of up to £350,000 free of Inheritance Tax.
Combining the two allowances gives an individual a potential allowance of £500,000, or £1m for a couple. The property allowance only applies to one property and your estate’s executor can nominate which one if you own more than one. For estates worth more than £2m, the main residence nil-rate band is reduced by £1 for every £2 over that limit, meaning that there is no residence relief available for estates worth £2.4m or more.
Gifts and care fees
You can give away gifts during your life, but the rules around this are complex and will be strictly applied. If, for example, you should need to go into a care home, the local authority will look at any gifts that you have made, to see whether they could be classed as deliberate deprivation of assets. If so, you could still be required to pay for your care, even if you have given much of your estate away. A local authority can require the recipient of gifts to fund the care up to the value of the gifts.
In addition, Inheritance Tax could be payable on gifts made during the last seven years of your life. This is charged on a sliding scale. For instance, the rate for gifts made between 6 and 7 years before death is 8 per cent, while the rate for gifts made during the last three years of life is 40 per cent, where the gifts exceed the nil rate band.
Small gifts of up to £3,000 can be given each year, as well as a set amount that can be given to relatives, for example, up to £5,000 to children and up to £2,500 to grandchildren on the occasion of a marriage or entering into a civil partnership.
There is also a much under-utilised relief where regular gifts are made from income. This often takes some planning and advice but can be a very effective way for parents and grandparents to put money aside for the future use of offspring.
Reducing your Inheritance Tax liability
Money left to charity will not attract Inheritance Tax and if you leave more than 10 per cent of your chargeable estate to charity (this can often be much less than 10% of the whole estate), this will reduce the Inheritance Tax rate on the rest of your estate to 36 per cent.
Assets placed into certain trusts will not form part of your estate for Inheritance Tax purposes provided that you have not retained a benefit from what has been given away, although you should seek legal advice as to the most beneficial way to set up a trust.
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