Inheritance Tax (IHT) can be a sensitive and uncertain topic when discussing with loved ones, but it is something that cannot and should not be avoided.
Let’s explore the basics of Inheritance Tax, along with how it impacts your finances so that you can better navigate this complex issue successfully.
What does Inheritance Tax consist of?
Inheritance Tax is a levy paid on the estate of certain individuals who have passed away and left substantial wealth to their beneficiaries.
In most cases, IHT is due if the total value of the estate surpasses the tax-free threshold of £325,000. This is known as the Nil-Rate Band.
If no other reliefs are applicable, the standard rate of 40 per cent will be charged on the portion of the estate above this threshold.
However, there are different circumstances that can alter this threshold, such as the Residence Nil-Rate Band, charitable gifts, and other reliefs.
Residence Nil-Rate Band
Where you pass your primary residence to a direct descendant, such as your children or grandchildren, the Residence Nil-Rate Band (RNRB) will be applied.
This increases the tax-free threshold by £175,000, bringing the total up to £500,000.
If you’re planning on passing your family home to your family, understanding the RNRB and when it applies is a valuable tool when planning your estate.
If you leave your entire estate to your spouse, there will be no IHT due. But it is worth bearing in mind that this rule only applies to those who are married or in a civil partnership.
Married couples can also pass on any unused allowance, including both the standard and Residence Nil-Rate Band, to each other, which could increase the combined tax-free threshold up to £1 million.
Gifts
In someone’s life, you may give gifts that carry a substantial value tax-free under the right circumstances.
To help with your IHT planning, you should make use of your gifting allowance. This is so you can make the most of the benefits of current IHT reliefs.
You have an annual allowance for lifetime gifting which is £3,000; you can either give this to a singular person or split it between multiple people.
Any gifts up to the value of £250 can be given to as many people as you’d like within each year, which means it won’t be classed as your gifting allowance.
There are some exemptions from the gift allowance; for example, Birthday and Christmas presents are exempt from the allowance whilst gifts for weddings, for instance, can be £5,000 for your child, £2,250 for your grandchild, and £1,000 for anyone else.
Any gifts given between spouses or civil partners also feature no IHT, meaning they are exempt from any gift allowances or policies.
Larger gifts might be subject to taper relief (where the gifts are made within seven years prior to the passing of an individual) - this is commonly known as the Seven Year Rule.
If the gifts are made within seven years, they will be added to your estate’s total value at a tapered rate depending on when you pass away.
Taper relief reduces the IHT liability on a sliding scale that ensures that the rate of tax you pay decreases the longer the gift was made before the individual’s death.
Items you could gift include:
- Money
- Personal goods (jewellery, furniture etc)
- Property and land
- Shares and investments
Furthermore, if you leave a charitable donation in your Will, it will be taken off the value of your estate before it is calculated meaning you do not have to pay as much tax as before your donation.
Gifts, in relation to IHT, can be tricky to understand, but our team of experts are on hand to help guide you through the process when navigating your tax plans.
What if I still don’t understand Inheritance Tax?
Understanding Inheritance Tax and its implications are important to know, as failure to understand and plan accordingly can mean your loved ones might be taxed more than they should be.
If you are unsure about Inheritance Tax or wish to plan and make an early start on distributing your assets when the time comes, please contact us and one of our expert accountants will be in touch with their tailored guidance and support.