If you are planning to transfer your estate to your children but are worried about the inheritance tax (IHT) implications, we have got you covered.
These tips may serve as a guide to saving your inheritance tax but may vary according to individual circumstances.
Here are the top 10 tips for planning inheritance that can be your tax saviour.
1. Make Lifetime Gifts Instead of Leaving Your Estate
Plan to make lifetime gifts that are potentially exempt transfers (i.e., not to a trust) which will not lead to the immediate charge of inheritance tax.
If the donor survives more than seven years, there is no inheritance tax liability. In case the donor does not survive more than seven years, the taper relief as well as the nil rate band will still be available to reduce the inheritance tax liability.
Nil rate band
(Nil Rate Band)
6 April 2009
5 April 2026
Even if the person passes away within 7 years of making the gifts, the gifts subject to inheritance tax will be taxed at 0% till £325,000. Any chargeable transfers done within the previous seven years will reduce the Nil-Rate band.
Taper Relief rates
2. Transfer to Spouse or Civil Partner Without Worrying About IHT
You can make transfers to your spouse or civil partner without any Inheritance tax implications both during your lifetime and on death.
However, this advantage is not available in the case the transferor is domiciled in the UK, but their spouse/civil partner is not. In such cases, the exemption is restricted to a lifetime total of the nil-rate band (£325,000).
Later, when your spouse would gift or leave the estate to your children, then they would get the advantage of using the percentage of your unused nil rate band. This can save the inheritance tax payable by your children.
3. Take Benefits of the Exemptions Available
Note: Hence, giving £3,000 worth of gifts/cash to your child every year may be a great tax-saving tip in long run. If you haven’t started doing this, you should start now!
You can also give unlimited gifts up to the value of £250 per person, per tax year, as long as you haven’t used another exemption on the same person.
There are exemptions available for wedding gifts as well.
Hence, make sure you use the exemptions to plan your gifts accordingly.
Read our article for expert guidance and tax saving tips on "Estate Administration and Inheritance Tax".
4. Normal Expenditure Out of Your Income
You can make regular payments to help another person meet his/her living costs. There is no limit to that, but it should be reasonable and should not affect your living standard. This gift should be out of your income and not from your capital.
These expenses may include paying rent for your child, paying into savings account for a child under 18, or giving financial support to an elderly relative.
5. Plan to Whom Should You Leave Your Main Residence
Leave directly to your children or grandchildren
If you give away your home to children or grandchildren, the tax-free threshold increases by the Residence Nil Rate Band (RNRB).
The £175,000 RNRB is available to those passing on a qualifying residence on death to their direct descendants. A taper reduces the amount of the RNRB by £1 for every £2 that the net value of the estate is more than £2 million.
Additional Threshold (Residence Nil Rate Band)
6 April 2020
5 April 2026
6 April 2019
5 April 2020
Let’s take an example for this:
A man passes away in the tax year 2020 to 2021 and leaves to his children:
Total Estate Value
Less: Residence Nil Rate Band
Less Basic Inheritance Tax Threshold
The amount that Inheritance Tax is due
Leave to your spouse
If one of the spouses leaves the main residence to the other spouse, then that other spouse will get to use the percentage unused RNRB along with his/her own RNRB while he/she leaves the main residence to their direct descendants.
Inheritance Tax Calculator UK
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6. Variation of the Will After Death
The Will of a deceased person can be changed for tax planning purposes. This can usually be done in the case where you would want to change the beneficiary of the will.
If you leave your estate to your child, there may be inheritance tax payable and then when your child wants to leave the estate to their child, there may again be inheritance tax implications. Hence, to avoid paying inheritance tax multiple times, your Will can be changed, and the estate can be directly given to your grandchildren.
Read our article on "Importance of Making a Will to Avoid Inheritance Tax in the UK" for tax saving tips and advice.
The variation to your Will can only be done within two years of your death.
7. Gift to Charities for Deduction in the Inheritance Tax Rate
There is a way to reduce your inheritance tax rate from 40% to 36%. This can be done if you leave at least 10% of your net estate,i.e., the baseline amount to charity.
Example Alex leaves the assets worth £900,000. He leaves £60,000 to charity in his will with the balance passing to his daughter, Avril.
Alex’s debts and funeral expenses are £25,000. He made no gifts during his lifetime therefore full nil rate band of £325,000 is available. The baseline amount is calculated as follows:
Less Debt and Funeral Expenses
Less Nil Rate Band
Base Line Amount
If a gift of £60,000 is given to charity, which is more than 10% of the baseline amount, the lower IHT rate of 36% applies to the taxable part of her estate. The £60,000 is not subject to inheritance tax, this will be deducted from the baseline amount to calculate the value of the estate that is subject to IHT at 36%, ie., £550,000 - £60,000 = £490,000 .
The total IHT liability will be £176,400 (ie £490,000 x 36%), leaving 638,600 for Avril.
Had Alex decided to leave a smaller gift to charity, say £50,000 the IHT liability would be £200,000, leaving £625,000 for Avril, ie both Avril and the charity would receive less, and more tax would have been payable to HMRC.
Read our article on "Lifetime Gifts vs Transfer at Death" for more insight on saving inheritance tax.
8. Take Advantage of Business Property Relief
You can get 100% Business Property Relief on a business or interest in a business and shares in an unlisted company. 50% Business Relief is available on shares that control more than 50% of the voting rights in a listed company and land, buildings, or machinery used in a business.
You can only get relief if the deceased owned the business or asset for at least two years before they died.
However, businesses involved mainly in securities, stocks or shares, land or buildings, in making or holding investments or a not-for-profit organisation do not qualify for this relief.
9. Invest in Pension funds to avoid Inheritance Tax
Investing in defined contribution or defined benefit pensions may help your children save on inheritance tax of 40% as it does not form part of your estate and are not subject to inheritance tax. If you do this, be careful to stay within your pension allowances.
Whether you pay tax usually depends on the type of payment you receive, type of pension pot, and age of the pension pot’s owner when they died.
If the donor passes away before the age of 75, the remaining pension pot can usually be passed on tax-free. If the donor is 75 or older when he/she passes away, the beneficiaries must pay income tax on the money they inherit.
10. Using Trusts to Transfer Your Assets
If you transfer your Assets Into a Trust, provided they meet specific requirements, they will not be a part of your estate as they no longer belong to you.
There will be a one-off charge of 20% Inheritance tax, (over the nil rate band) when the asset is transferred to the trust.
The seven-year rule applies, whereby, if the donor dies within seven years of gifting the trust, then 40% inheritance tax will be applicable, minus the 20% already paid (taper relief may also apply).
Trusts are usually set up to save inheritance tax or provide for beneficiaries who are too young to inherit.
You should note that trusts have their own tax charges and costs:
Pay 6% IHT each 10 year anniversary
Any assets in the trust need to be re-valued each decade. After that, a 6% charge is levied on the value of the total assets, less £325,000.
Up to 6% tax on exit
Tax is charged up to a maximum of 6% on assets transferred out of a trust.
Hence, a cost-benefit analysis is a must before you take a decision of using trusts.
You can choose the option that best fits your circumstances to save your IHT bill. Remember, the sooner you plan, the better.
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