Inheritance Tax Planning
Posted on 5th November 2017 at 20:42
Our guide to Inheritance Tax takes you through all of the key considerations including practical advice on how to limit the amount of inheritance tax.
Inheritance tax is charged at 40% on the value of the deceased estate which exceeds the threshold, currently £325,000. If the deceased left his/her home to children or grandchildren in his/her will then the threshold can be increased using the main residence nil rate band – which is currently £100,000 (see further info on residence allowance below) – to £425,000.
For married couples or civil partnerships, any unused threshold can be added to the surviving spouse/partner to be available on their death (so their threshold can be as much as £850,000).
Transferable Main Residence Allowance– effective from April 2017
The new Transferable Main Residence Allowance is designed to help people pass on property to their descendants.
The allowance will initially be set at £100,000, rising to £175,000 by 2020/21. When added to the current IHT threshold of £325,000, it will allow each individual to pass on £425,000 with no tax payable – or £850,000 per couple. By 2021, the tax-free limit will be £500,000 each, or £1million for married or civil partners.
Steps that can be taken before death to reduce inheritance tax
• give assets away which will reduce the estate's value on the date of death
• write a will which leaves assets to charity
• hold assets which obtain exceptions from inheritance tax (for example Land used for agricultural purposes that you let out can become inheritance-tax free after you’ve owned it for seven years, and only two years if you are farming it)
• take out life insurance.
Assets can also be given away which will reduce the estate’s value on the date of death. Lifetime transfers of assets fall into three general categories:
• transfers which are exempt from inheritance tax
• transfers which are potentially exempt transfers
• chargeable transfers, which are any other transfers of value.
1) Transfers of value between spouses or civil partners are exempt from inheritance tax. There is a restriction if the transferor is domiciled in the UK but the transferor’s spouse or civil partner is not so domiciled. This ‘domiciliary gift limit’ is £325,000. However, an election is available whereby a non-UK domiciled individual with a UK domiciled spouse can elect to be treated as domiciled in UK for IHT purposes.
Inheritance tax on your home, if you are a joint tenant with your partner then they will automatically inherit your share of the house upon your death. IHT is not payable if your husband or wife continues to live in it.
2) Annual exemption of £3,000
Transfers of value during the lifetime of a person up to a total of £3,000 per fiscal year are exempt from inheritance tax. If the gifts (if any) fall short of the above limit, the shortfall is carried forward to the following year and added to the allowance for that year. if the gifts were made on the same day, be attributed to them in proportion to the values transferred by them.
3) Small gifts to same person (no more than £250)
Transfers of value during the lifetime of a person up to a total of £250 per fiscal year to any one person are exempt from inheritance tax. This exemption is in addition to the annual exemption of £3,000 referred to above. It applies to any number of gifts up to £250 to separate persons but cannot be used to cover part of a larger gift.
4) Gifts in consideration of marriage or civil partnership
Gifts in consideration of any one marriage or civil partnership by any one transferor are exempt from inheritance tax on the value transferred without tax up to the following limits:
• £5,000 by a parent of either party to the marriage or civil partnership
• £2,500 by one party to the marriage or civil partnership to the other or by a grandparent or remoter ancestor
• £1,000 in any other case.
Any excess of gifts over the above limits is attributed in proportion to the values transferred.
5) Normal expenditure out of income
A transfer of value during lifetime is exempt if, or to the extent that, it is shown:
• that it was made as part of the normal (i.e. typical or habitual) expenditure of the transferor; and
• that (taking one year with another) it was made out of his income; and
• that, after allowing for all transfers of value forming part of his normal expenditure, the transferor was left with sufficient income to maintain his usual standard of living.
6) Passing on a home as a gift
If you pass on your home as a gift to your children or a loved one, then it is treated as a gift and therefore falls under the seven year rule. If you continue to live in the home without paying rent then IHT will need to be paid even after the seven year period – this is known as a ‘gift with reservation of benefit’.
If you only give away part of your home to someone who moves in – for example, you can give away half of your home to your children or loved ones and this will be excluded from the estate valuation as long as the bills are split and you live there for more than seven years after giving it away.
Write a will which leaves assets to charity
Many people make donations to charities in their Wills – these donations are exempt from Inheritance Tax.
If you give 10% of your wealth to charity, the inheritance tax rate on the rest of your estate will drop to 36% rather than 40%. These provisions will apply equally to charitable legacies made by will or by an instrument of variation.
The estate of Mr Smith who died on 31 August 2017 was valued at £500,000 comprising cash. He leaves a legacy of £25,000 to charity and the residue of £475,000 less inheritance tax passes to his children. The inheritance tax payable will be:
Value of the estate 500,000
Less exempt gift to charity 25,000
Less nil band 325,000
Chargeable value of the estate 150,000
As the gift to charity of £25,000 exceeds 10% of the net chargeable value of the estate, then inheritance tax payable will be £150,000 at 36% being £54,000.
Some assets are exempt from inheritance tax
The following assets qualify for business property relief (BPR):
(a) Unincorporated business
(b) Any unquoted shares in a company not listed on a recognised stock exchange but including those traded in the USM or the AIM or Offex markets.
(c) Shares or securities giving control of a ‘quoted’ company (relief is only given if the individual has voting control of the company immediately before the transfer).
(d) Land, buildings, machinery or plant held either
- by a partner and used for the purposes of a business conducted by the partnership or
- by a controlling shareholder and used by that company for the purposes of its business or
- by the trustees of a settlement and used for the purposes of a business carried on by a life tenant of the settlement.
Items (a) and (b) above are eligible for 100% business property relief whereas items (c) and (d) above are eligible for 50% relief.
The following conditions need to be satisfied to obtain business property relief for the above assets:
(i) the business, whether unincorporated or incorporated into a company in respect of the value of which relief is claimed, is a qualifying business (to qualify the business must be trading, and control conditions ae satisfied, related property holdings must be considered); and
(ii) the asset must be relevant business property and
(iii) the asset must have been owned for a minimum period.
The property must have been owned by the transferor for a minimum period of two years immediately preceding the transfer (exception applies to replacement property if the individual owned relevant business property for a combined period of ownership of at least two out of the last five years).
If the asset was inherited on the death of a spouse (or civil partner), the couple’s combined ownership period is taken into account.
The business property relief:
●is given automatically if the conditions are satisfied, no claim is required
●reduces the transfer of value by either 50% or 100%, depending on the type of business property being transferred.
●applies to worldwide relevant business property
●applies to both lifetime transfers and the death estate valuation (on life time gifts, is deducted from the transfer of value before any other exemptions of reliefs).
A family trust is a good way to keep assets within the family whilst still controlling their use.
Family trusts can be effective in sheltering assets from claimants in the event of a business or relationship breakdown. They can also be used to make provision for a child or dependant without giving the money outright to that person straight-away. That can save Inheritance tax.
Take out life insurance
This option does not reduce the amount of inheritance tax payable. However, it does mean that the insurance company will pay out cash on death of the person. That cash can then be used to pay the inheritance tax. Care should be taken to ensure that the insurance pay-out does not go to the estate which would make the estate bigger and therefore make the inheritance tax liability bigger.
Tagged as: Inheritance Tax Planning
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