What is Inheritance Tax?

What is Inheritance tax (IHT). In simple terms, Inheritance Tax is payable upon death or at certain stages during a lifetime. For the purposes of this post, we will look at the IHT charge payable upon death which relates to the deceased’s estate. Upon death, the Executors calculate the value of the estate, which includes the value of any assets such as land, property, money in bank accounts and other investments. They are also required to account for any gifts made by the deceased within 7 years before their death.

If the value of the estate exceeds the available tax-free allowances, then the rate of IHT payable is 40% upon the excess value above those tax-free allowances.

Allowances

Everyone that is normally resident within the UK has a basic IHT-free allowance of £325,000 available to them. If the value of a deceased person’s assets is below this amount, then there is no IHT payable. However, please be aware that this allowance can be reduced by any gifts and transfer of assets made by the deceased during their lifetime.

An additional “residential property” IHT free allowance will only be available where a person leaves a “qualifying residential interest” to “direct lineal descendants”. For a property to be a qualifying residential interest it must form part of the deceased’s estate on the date of their death and must have been used by them as a residence at some point during their period of ownership. It cannot be applied to a property that was bought as a buy-to-let investment for example.

“Direct lineal descendants” include children, grandchildren and so on down the line. It also includes spouses and civil partners of the descendants, stepchildren, adopted children, foster children and children for whom the deceased was the appointed guardian.

The current maximum value of this allowance is £175,000 which is capped at the value of the property in question.

Steps to mitigate Inheritance Tax

Gifts to Spouse or Civil Partner

Any gifts made to a spouse or civil partner are free from IHT and this applies in lifetime and in death.

Example:

Fred and Wilma are married. In Fred’s Will, he gifts his entire estate to Wilma upon his death. Fred and Wilma each have a basic and residential IHT allowance. As Fred has gifted all to Wilma, his allowances are unused because all gifts to Wilma are exempt from IHT. However, as they are married at the time of Fred’s death, this means that when Wilma dies, the representatives of her estate (her Executors if she has a valid Will when she dies) can apply for any of Fred’s unused allowances to be transferred to Wilma and applied against her estate. At the current rates, this gives Wilma a total allowance of £1,000,000.

*Please note any unused IHT allowances are not transferable between unmarried couples*

Small Gifts Exemption

Each person can make gifts of up to £250 per person during the tax year IHT free, providing another exemption has not been used on the same person.

Annual Exemption

As well as the above, each person can give away £3,000 worth of gifts each tax year without them being added to the value of the estate.

If the full £3,000 is not used, it can be rolled over to the following year so the annual exemption for the following year will be up to £6,000. It is important to note that any unused annual exemption can only be carried forward for one year.

Wedding or Civil Ceremony Gifts

For gifts under this category to be free from IHT, the gift must be made either before or on the marriage/civil partnership. It cannot be made after the wedding. The gift must also be made on the condition that the marriage or civil partnership does occur.

• A parent can gift up to £5,000 to their own child tax free.
• A grandparent can gift up to £2,500 to a grandchild or great-grandchild tax free.
• For any other relationship, a person can gift up to £1,000 tax free.

Assistance for Living Costs

You can make payments to assist with a relative’s living costs such as an elderly relative or a child under the age of 18 who is in full time education. These payments are free from IHT.

Gifts to Charity

Gifts made to registered charities are exempt from IHT.

The rate of IHT can be reduced from 40% to 36% upon the entire taxable estate value of the deceased provided that 10% or more of the net estate is left to charity.

Gifts to Political Parties

Gifts made to qualifying political parties are free of IHT provided that the political party at the last general election had either at least two MPs elected to the House of Commons OR one MP was elected to the House of Commons and the members of the party received at least 150,0000 votes.

For further details WITHOUT fear of consultation fees or obligation, please visit our Inheritance Tax page.