What is Inheritance Tax?

what is inheritance tax

(6 Minute Read)

Protect your family from a huge tax bill

What is Inheritance Tax?

Inheritance Tax (IHT) is a tax charged on your estate when you pass on, but it can also be charged on transfers made during your lifetime.

Failing to plan ahead could result in a large tax bill, making HMRC your largest beneficiary.

However, there are several reliefs available to reduce any IHT liability.

Capital Allowance Calculator

Are there IHT allowances?

Just like income tax, there is a tax free allowance for IHT. This is currently £325,000. This means that tax will only be paid on an estate above this value.

If you leave your home to your children or grandchildren then this is free from IHT up to £175,000, potentially raising your total tax free allowance to £500,000.

Lifetime and death transfers to a spouse or civil partner are exempt from IHT, and any unused nil-rate band (IHT allowance) can be transferred to the surviving spouse or civil partner.

IHT on Business Property

There are several reliefs from IHT available for business property.

There is a 100% relief on Agricultural property, and certain business interests, including unlisted shares and a controlling interest of unquoted shares. These require that the property be held for a minimum of two years.

A controlling interest in a listed company has a 50% relief, as on the deceased’s company or ex-partnership. For sole traders there is a 100% relief for the transfer of the business as whole. 

Inheritance Tax Calculator

Make pension contributions

You can make payments to a qualifying non-UK pension scheme (QNUPS), rather than a UK based pension scheme. The benefits of this are:

  • There isn’t a maximum contribution you can make to QNUPS unlike a UK based scheme which has a £40,000 limit per year. However, if the contributions to QNUPS are excessive, HMRC could view this as tax avoidance.
  • You can make withdrawals during your lifetime (those withdrawals are taxable as normal pension income) but the remaining balance passes to your chosen beneficiaries on death are not subjected to inheritance tax as long as there is no evidence of deliberate tax avoidance.

Any income made by the qualifying non UK pension scheme is taxed at the potentially lower rate available in the local country rather than the UK rates.

You could invest in a self investment pension plan. You will have to make an expression of wish for each pension plan nominating the beneficiaries.

If you die before the age of 75 the nominated beneficiaries will receive the funds tax free.

If you die after the age of 75 the beneficiaries will be charged at their marginal rate of tax if it is taken as a lump sum or income, but they could transfer the amount to their own self investment pension plan.

The funds are not treated as part of the estate for inheritance tax purposes.

Try Equity Release and Property Transfers

Home owners can take out an equity release loan against the home and make cash gifts which could be treated as a potentially exempt transfer. The loan doesn’t have to be taken with an external company it could be taken from a family member, providing the borrower has not given large amounts to you previously as gifts.

The home owner would have to survive for seven years after the transfer for the loan to reduce the value of the estate.

Alternatively, if you have a children living with you and are likely to do so for some time, you could gift a share of the property to them. You would have to survive for seven years after the transfer for it fall outside of inheritance tax.

This would be deemed as a gift to the connected party for capital gains tax purposes and it would be deemed to occur at market value at the date of transfer.

Create a Family Investment Company (FIC) or Set up a Trust

Trusts are popular tools used to reduce IHT. This is because they allow you to pass on your wealth, and transfer assets, without incurring any Capital Gains Tax liabilities.

If trusts are used, a new trust should be set up every seven years as they can reduce any IHT liabilities.

Family Investment Companies can be used to create long-term, tax-efficient family investments. They can enable you to pass your wealth on, or allow the growth to be moved out of your estate, whilst retaining access to the original funds.

Anything Else?

If you donateat least 10% of the net value of your estate is to charity, then the rate of IHT will decrease from 40% to 36%. If you are able to donate under Gift Aid whilst still alive, the charity will also be able to claim a tax credit, increasing how much money they receive.

You can make cash gifts of up to £3,000 per year IHT free, and smaller gifts of £250 per year to as many people as you like, also free from IHT.

It is important to have an up to date will in place, to protect your family when you die. It should be noted that marrying will automatically null and void any previous wills.

If you’re worried about protecting your family from a large IHT bill, the best place to start is to contact the Tax Experts.

We will be presenting a series of seminars from September 2021 on how to reduce and eliminate IHT  Register your interest now!

Kind regards Ilyas