Navigating Inheritance Tax: A Brief Guide
Estate Planning UK
Inheritance Tax (IHT) can seem daunting, but understanding the basics can help you plan effectively. This guide aims to break down the key aspects of IHT in a clear and concise way.
What is Inheritance Tax?
Essentially, IHT is a tax levied on the value of your estate when you pass away, and sometimes on gifts you make during your lifetime. If the total value of your estate exceeds certain thresholds, IHT is typically charged at 40%.
What's Included in Your Estate?
For UK residents, your estate generally includes all your assets worldwide, minus any outstanding debts like mortgages. This can include property, investments, and personal belongings. Importantly, gifts made within seven years of your death could also be included. Also, while most pension funds are currently outside IHT, this could change, especially with proposed changes potentially coming into effect from April 2027. Given the ever-evolving nature of these rules, seeking professional advice is crucial.
Key Exemptions
Transfers to spouses or civil partners: If your spouse or civil partner is UK domiciled, transfers to them are generally exempt.
Gifts to charities: Donations to registered charities are also exempt.
Business and agricultural relief: Certain business and agricultural assets may qualify for relief.
Understanding the Nil Rate Bands
Nil Rate Band (NRB): Every individual has a Nil Rate Band of £325,000, which is fixed until April 2028. If you don't use your full NRB, the unused portion can be transferred to your surviving spouse or civil partner, potentially doubling the allowance to £650,000.
Residence Nil Rate Band (RNRB): In addition, there's the Residence Nil Rate Band, which provides an extra £175,000 exemption when passing your main residence to direct descendants like children or grandchildren. Like the NRB, any unused portion of the RNRB can be transferred to a surviving spouse. This RNRB is tapered for estates over £2 million.
Lifetime Gifts and IHT
Potentially Exempt Transfers (PETs): Gifts made during your lifetime are known as PETs. If you survive for seven years after making the gift, it's generally exempt from IHT. However, if you pass away within that seven-year period, the gift becomes part of your estate.
Chargeable Lifetime Transfers (CLTs): Gifts into certain types of trusts, known as CLTs, may incur an immediate 20% IHT charge. If you die within seven years of making a CLT, the gift is added to your estate and taxed at 40%, but taper relief may reduce this.
Taper Relief
Taper relief reduces the amount of IHT payable on lifetime gifts if you die within seven years. The percentage reduction is based on the number of complete years between the gift and your death.
Remember, taper relief reduces the tax percentage, not the gift's value.
Exempt Lifetime Gifts
Gifts to spouses/civil partners and charities.
Annual £3,000 allowance (with one-year carry-forward).
Small gifts up to £250 per person per tax year.
Regular gifts from surplus income.
Domicile and Valuation
Domicile: Your domicile, which differs from residence, determines whether your worldwide assets are subject to UK IHT. Seek professional advice, as domicile rules are complex.
Valuation: Accurate asset valuation is crucial. HMRC can challenge valuations, so professional valuations are highly recommended.
IHT and Trusts
Trusts can have complex IHT implications, including immediate charges on CLTs and potential periodic and exit charges. Professional advice is essential when dealing with trusts.
Calculating and Paying IHT
IHT is calculated on the value of your estate after exemptions and reliefs.
The standard IHT rate is 40%, but it can be reduced to 36% if 10% or more of the estate is left to charity.
IHT is typically due six months after the month of death.
Probate is granted after IHT payment.
Record Keeping
Bonus: get your checklist for what to record for IHT purposes here.
Detailed records of gifts, especially those within the seven-year period, and accurate asset valuations are essential for IHT calculations. Stronghold is a great option for keeping these records organised and accessible.
Final Thoughts
IHT is complex, and this guide provides a general overview. It's important to seek professional financial and legal advice tailored to your specific circumstances. Careful planning and accurate record-keeping can help you navigate IHT effectively and ensure your loved ones are taken care of and your assets are passed on as you intend.
Note: This blog post is for general informational and educational purposes only and should not be construed as legal, financial or tax advice. The content of this post is not a substitute for specific legal, financial or tax advice or any other professional services. We encourage you to consult with a qualified solicitor, accountant, financial advisor or other relevant expert before taking any action.