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Inheritance Tax (IHT) is levied on a person’s estate when they die and can also be payable during a person’s lifetime on certain trusts and gifts. The rate of Inheritance Tax payable is 40% on death and 20% on lifetime gifts.
The current IHT nil rate band is £325,000 per person, below which no Inheritance Tax is payable. This is the amount that can be passed on free of IHT as a tax-free threshold. A reduced rate of IHT of 36% (reduced from 40%) applies where 10% or more of a deceased’s net estate after deducting IHT exemptions, reliefs and the nil rate band is left to charity.
We have listed below a summary of the main IHT rates, thresholds and exemptions.
Inheritance Tax Rates
|Nil rate band for individuals||£325,000|
|Residence nil rate band||£175,000|
|Thereafter - lifetime gifts||20%|
|- lower rate on death||36%|
|- on death||40%|
Any unused nil rate band can be transferred to a surviving spouse or civil partner.
The lower rate applies where 10% or more of the ‘net value’ of the estate is left to charity.
The IHT rates on lifetime gifts can be increased to 40%, subject to tapering relief, on gifts made between 3 and 7 years pre-death. Certain lifetime gifts are exempt. There are special rules for business property.
|Years before death||0-3||3-4||4-5||5-6||6-7|
|% of death charge||100%||80%||60%||40%||20%|
A surviving spouse or civil partner is able to receive the benefit of the nil rate band unused on the death of their partner. When the second person dies, their estate is allowed to utilise their own nil rate band plus the remaining proportion of the unused nil rate band from the death of the first partner.
This in effect allows for the doubling of the nil rate band for married couples and civil partners.
Main Residence Nil-rate Band (RNRB)
The RNRB came into effect on 6 April 2017. The RNRB was introduced in stages and the allowance increased to the present maximum level of £175,000 from 6 April 2020. Going forward, the allowance is set to increase in line with the Consumer Price Index. The allowance is available to the deceased person’s children or grandchildren.
There is a tapered withdrawal of the additional nil-rate band for estates with a net value of more than £2m at a withdrawal rate of £1 for every £2 over this threshold.
The legislative provisions have been drafted to ensure that an estate will be entitled to the RNRB where an individual downsized to a smaller property on or after 8 July 2015. This is the date the measure was first announced.
Potentially Exempt Transfers
Gifts made during a person’s life are not subject to tax at the time of the gift. These lifetime gifts are known as Potentially Exempt Transfers (PETs). These gifts or transfers achieve their potential of becoming exempt from IHT if the taxpayer survives for more than seven years after making the gift. If the taxpayer dies within three years of making the gift, then the IHT position is as if the gift was made on death.
A tapered relief is available if death occurs between three and seven years after the gift is made. There are insurance products such as a seven-year term assurance policy that can be used to reduce the amount of IHT due should the taxpayer pass away within seven years of making a gift. Obviously, there will be an additional cost associated with such insurance policies.
The rules surrounding PETs have resulted in many people wanting to make gifts long before they die. The problem in practice is that they do not want to give up control over the assets concerned. A common example is a person giving their house away but continuing to live in it rent-free. Such gifts are known as ‘gifts with a reservation of benefit’.
HMRC does not accept that a true gift has been made so the ‘gift’ remains subject to IHT even if the taxpayer dies more than 7 years later. These rules can be even more complicated if a trust has been established. We would be happy to advise those with existing trusts and those considering setting up trusts on the best way forward. Please get in touch for more details.
Gifts from surplus income
Gifts which are made from surplus income and that do not result in a fall of the standard of living of the donor, are exempt from IHT. There is no published limit to this relief; the amount that can be given is only restricted by a taxpayer’s surplus income. This includes monthly or other regular payments to someone, regular gifts for Christmas and birthdays, or wedding/civil partnership anniversaries, regular premiums on a life insurance policy - for you or someone else.
Annual gifts out of capital
Taxpayers may gift up to £3,000 per year to an individual without a charge to Inheritance Tax. The annual exemption may be carried forward by one year but not thereafter.
Small gifts out of capital
Taxpayers may give gifts of up to £250 per recipient per tax year without incurring any Inheritance Tax charge. The exemption does not apply where the gift exceeds £250.
Gifts on marriage
There are also reliefs for wedding gifts. A parent may gift up to £5,000 with no Inheritance Tax liability and grandparents and great-grandparents up to £2,500. There is also a general limit for gifts on marriage of up to £1,000 (per donor).
Any gifts made to a UK charity during a donor’s lifetime or in his Will are exempt from IHT. Political donations to any UK political party that has at least two members elected to the House of Commons or has one elected member but the party received at least 150,000 votes are also eligible for relief. It is also possible to make donations to certain national institutions such as museums, universities and the National Trust and benefit from relief.
Business relief (50% or 100%) can be claimed on qualifying property and buildings, or assets such as unlisted shares or machinery.
Agricultural property relief (50% or 100%) can be claimed on farming land, working farmhouses, farm workers’ cottages and barns. There is no agricultural relief for farm equipment but the equipment may qualify for business relief.
There are special reliefs for woodland timber which allow the value of the timber (but not the land on which it sits) to be exempted from an estate.
There are special rules for national heritage property and famous and important works of art.
In general gifts to an unmarried partner, or a partner that is not in a registered civil partnership, are not exempt from IHT.
You should keep a record of any gifts you make and record any exemptions that you use as well as details of what you intend should be treated as regular gifts made out of surplus income.
Executors or personal representatives must keep:
- a copy of the Will;
- a copy of all signed Inheritance Tax forms;
- the necessary paperwork from the death of a first spouse or civil partner if any unused Inheritance Tax threshold is to be transferred.