Inheritance Tax planning?

IHT Threshold or Nil Rate Band (NRB) is the amount up to which IHT is not applicable. Each individual has their own NRB which means that their estate and taxable gifts are exempt from IHT up to a certain level /threshold, which currently is £325,000.

The United Kingdom has the 2nd highest Inheritance Tax Rate after Japan. The standard Inheritance Tax is 40% and it is only charged on that part of asset, over and above the declared threshold value, i.e. £325,000.

Hypothetically, if the net worth of assets is £650,000, so IHT charged will be 40% of £325,000 (Net worth amount – Threshold Amount)

However, IHT is reduced to 36% on certain assets if 10% or more of the net value has been given to the charity as per the will.

Summer budget of 2015 introduced a new provision which allowed individuals and married couples to pass on to their main home with a smaller tax liability. It introduced a new measure to reduce the burden of IHT for the families by making it convenient to pass on the family home to the direct descendants without any tax. It was then decided to set a new limit in April 2017 which will eventually allow each individual to pass on estates valued up to £500,000 without any tax.

As mentioned above, Inheritance Tax is paid to HMRC after the death of an individual. In case there is a will declared by the deceased, it’s on the executor of the will to arrange for the IHT. In the UK, the person who is making the will can appoint up to four executors, so that the responsibility of IHT can be mutually shared. It also ensures that the property of the deceased person is in safe and secure hands immediately after his/her death.

For the year 2020/28, everyone is allowed to leave an estate of worth up to £500,000, which includes normal nil rate band/threshold up to £325,000 plus additional residence nil rate band of £175,000. However, this additional residence nil rate band is applicable only if the residence of the deceased individual is passed on to the direct descendants.

If there is a will declared by the deceased person, then depending on who has got what and its estate value, he or she has to pay the IHT. It’s your heirs who must pay the inheritance tax by the end of six months after the death of the person. However, to pay the Inheritance tax, you need to get Inheritance Tax Reference Number from HMRC at least 3 weeks prior before you make the payment.

You need to fill up Form IHT422 to apply for Inheritance Reference Number along with form Form IHT400 (in case the death has happened after 18th March 1986). You can either apply or fill the forms online or you can send them by post to the postal address mentioned on the form.

In case there is no will declared by the deceased, the administrator of the estate has to make the necessary arrangement for payment of necessary IHT. Chances are high that the individual has planned well in advance for the payment of IHT through various sources like Life Insurance Policy. In any other case, IHT is paid from the money left in the estate, in case there is any or from the money raised by the sale of assets.

Smart cheat guide to save/avoid IHT: how to give more to your family and less to the taxman:-

Without proper and prudent Inheritance Tax planning, you would be leaving less for your beneficiaries and more for the taxman, HMRC in the UK. In recent years, more and more families have been stung by Inheritance Tax after steep rises in house prices. However, with a little bit of advance planning, you can ensure that the people you actually wanted to get benefit from your estate, do get that benefit after your death. Following are some tips from the expert financial planners that can help you avoid the pitfalls that surround IHT: -

1. Write a will :-

Setting up a will should be your first step in IHT Planning, not only to make certain that matters are dealt with in a tax-efficient way but also to ensure that your wishes are carried out in a proper and efficient manner. Even if you have a will, it must be up-to-date and reflect your wishes, assets and current tax position in a clear manner. Any kind of civil partnership, marriage, divorce or dissolution can have an impact on your will.

In case a person dies without declaring his/ her will, then he is said to have died intestate and it gives birth to a lot of issues.

Effectively it’s the Law which decides what happens to the estate, which can lead to financial anxiety for the surviving spouse. In most cases, HMRC becomes the largest beneficiary of your estate.

2. Calculate your actual IHT liability

Irrespective of how obvious it sounds, it’s actually quite a prudent step to consider and know well in advance where all IHT is applicable for you to plan better. As per current IHT threshold and nil-rate-band, every individual has a tax-free allowance of £325,000. IHT is applicable on the value of the estate over and above this value at the rate of 40%.

3. Gifts and exemptions from inheritance tax

The main approach to IHT mitigation is to reduce the value of your estate over a period of time. The smaller the value of your estate when you die, the less your IHT bill is likely to be. There are a lot of ways for doing so, few of them are listed below:-

1. Pass your estate to your spouse / civil partner:- Married couples and civil partners are allowed to pass their estate to their spouse tax free. In other words, the surviving spouse can inherit the entire estate without paying any IHT (unless your spouse was born outside the UK, in which case the amount you can give away might be limited.

What if I am not married to my partner:

In case of married couples, transfers of property and other assets don’t attract inheritance tax, however this is not the case with unmarried individuals. If you are not married but own the assets jointly with your partner, then your liability to pay the IHT will depend on whether you and your partner own the property as joint tenants or tenants in common or if there is a will. Even if your partner has left everything on your name in his/her will, his or her family members would still have a claim to your partner’s share of assets like insurance policies and pensions investments.

1. Annual Exemption

Individuals are entitled to give away £3,000 in total, in any tax year without any IHT applicable on it. In case, in one tax year the full amount of £3,000 is not utilized, it can be carried forward to the next. This means that a married couple could give away a total of £6,000 a year to their children without incurring any IHT and a total of £12,000 if the previous year’s allowances were unused.

2. Small Gift Exemption :-

Gifts up to £250 in total, to any number of people in one year, are exempted from IHT. However, it cannot be a part of any larger gift.

3. Marriage or civil partnership gifts exemption :-

Gifts made in consideration of a marriage or civil partnership can be considered for IHT exemption, however amount of gift varies on the type of donor, as described below:-

4. Normal Expenditures from Income :-

To benefit from this particular exemption, the gifts need to be made regularly i.e. yearly and it has to be out of true income i.e. dividends and interest from investments. There is no maximum limit on the amount which can qualify for this exemption and it can only be worked out on death of an individual.

5. Other Exemptions :-

Lifetime gifts for the upbringing of children and other dependents, if any, are free from IHT liability. Few other exempts on gifts and bequests are as below:

• to charities
• to political parties
• to universities
• for national purpose
• for public health

6. 7-year rule : ( Benefit of Tapering) :-

If a person gives away more than £3,000 each tax year - or the other exemptions - and dies within seven years of making that gift, leaving an estate worth more than the nil rate band, it is eligible for inheritance tax.

4. Make use of trusts

Another intelligent way to mitigate your IHT is to use trust. If you put some of your cash, property or investments into a trust, which you, your spouse and none of your children under 18 years of age can benefit from, they’re no longer part of your estate for IHT purposes. However, there are certain trusts which are subject to their own tax regimes and they might have to pay IHT themselves.

One can put all manner of assets in the trust, including investments, life assurance policies and death benefits.

If trust has been established correctly, it not only helps you in reducing your IHT liability by transferring your assets progressively out of your estate but can also give you access to regular income while you are alive, in the form of withdrawals. The rules around trusts are a bit complicated and there are lots of factors that come into play so it is always better to take expert Inheritance Tax accountants advice.

5. Gifts to charity :-

If you leave some or entire estate to a charity, it can help in reducing your IHT and in some cases, it might even eliminate IHT liability. However, you can choose to donate to a charity while you are alive or you can allocate the desired amount in your will. If you leave something to charity in your will, then it’s called a charitable legacy.

In case you have allocated 10% of your net estate to a charity, then in that case IHT rate can cut down to 36% from 40% on the rest of your estate value.

6. Tax Reliefs :-

Certain assets are exempt from Inheritance Tax and if they are not exempted, IHT is charged at reduced rate. Exemptions of these kinds are known as tax reliefs. Few of them are listed below:-

1. Business Relief : Depending on how you own the business and its type, you can get either 50% or 100% tax relief on it.

2. Agricultural Property Relief : You can pass on a farm free from IHT, however not all farms fall under this category.

3. Woodland Property: If you leave a woodland property, the land itself is not subject to Inheritance Tax. But the trees on the property are subject to the tax if it’s sold or given away as timber.

The executor of your estate will have to include the value of the woodland when applying for probate even though it’s not considered for Inheritance Tax.

4. Heritage Assets: If you own a building, land, or objects of national scientific, historic or artistic importance, you could claim relief from Inheritance Tax.