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10/05/19Inheritance Tax on the rise: Seven ways to mitigate the bill

When estate planning, Inheritance Tax (IHT) can be a concern. Naturally, you want to leave as much as possible to your loved ones and ensure they’re not stressed about paying a bill at what is already a difficult time. Luckily, there are usually many ways you can reduce the IHT your estate will be liable for.

Despite this, IHT receipts are rising. For the tax year 2018/19, HM Revenue and Customs (HMRC) collected an additional £160 million in IHT when compared to the previous year. It means more than £5.4 billion was paid from the estates of the deceased.

It’s an issue that’s set to grow too. By 2030, Canada Life predicts the total amount paid in IHT could reach a staggering £10 billion due to the value of assets increasing while thresholds for paying no IHT remain static have risen at a slower pace.

IHT is the amount of tax owed on your estate when you pass away should it exceed certain thresholds. The standard Nil-Rate Band is £325,000. An estate valued up to this amount is exempt from IHT. In addition to this allowance, there is also the Residence Nil-Rate Band. This can be used if you’re passing your main home to children or grandchildren. It’s currently £150,000, rising to £175,000 in 2020/21.

Therefore, assuming you are able to utilise one residence nil rate band and one standard nil rate band, if the value of your estate is more than £475,000 for this tax year, or £500,000 from April 2020, some of your estate may go to the taxman rather than loved ones. However, with an effective plan in place, it is possible to eliminate or reduce an IHT bill. Among the things you can do are:

1. Make a will: A will is always an essential part of estate planning. It’s the only way to ensure your wishes are carried out when you pass away as, without one in place, your assets will be distributed according to the Intestacy Rules. This may vary significantly from what you want. It’s also an opportunity to assess the size of your estate and reduce IHT, for example, by the way assets are passed to loved ones.

2. Make full use of the Nil-Rate Band allowances: The value of your estate that falls under the Nil-Rate Band allowances is not liable for IHT. As a result, your first action should be to ensure you make full use of them where possible. However, if your allowances aren’t used on your death and you’re married or in a civil partnership, your surviving spouse/civil partner’s personal representatives can claim your unused allowances to use on second death. This means that a married couple/civil partners can effectively pass on up to £1 million free from IHT in 2020/21, increasing in line with inflation for 2021 onwards, if both nil rate bands and residence nil rate bands are available to them.

3. Use the gifting allowance now: Giving away assets now can help reduce the value of your estate, minimising the amount of IHT your estate will be liable for on your death. However, caution does need to be exercised here. For IHT purposes, gifts made in the seven years before your death may be considered part of your estate, and therefore liable for IHT. However, you can gift up to £3,000 annually, which is immediately considered outside of your estate. Making use of this allowance can form part of your wider estate plan.

4. Give gifts out of your excess income: Following on from the above, regular gifts that are given from your excess income are also not included in your estate. These may include Christmas and birthday gifts. The key here is that you must be able to maintain your standard of living after making the gift. This can be tricky to understand in some situations, if you have any questions, please contact us. There are other gifts that are immediately excluded from your estate too, which can be found here.

5. Place assets into a trust: Assets placed within a trust are not considered part of your estate after 7 years (or immediately if covered by one of the exemptions described above), and, therefore, aren’t liable for IHT. There are several different types of trusts and whether any are right for you will depend on your circumstances and goals. However, a trust can be useful in some cases, for instance, if you want to create an inheritance for children. To be effective for IHT purposes you must normally give up all rights to the assets within the trust but there are packaged IHT products available that enable you to still receive an income from the trust assets. For help understanding trusts, please get in touch.

6. Leave 10% of your estate to charity: If your estate is likely to be liable for a significant IHT bill, leaving 10% of your net estate to charity can reduce the overall amount. Rather than paying IHT at the standard rate of 40% on assets above the Nil-Rate Bands, the rate will be reduced to 36%. The gifts to charity are themselves free from IHT. It’s also an opportunity to support the causes or organisations that are close to your heart so it can be a win-win solution.

7. Take out life insurance: It isn’t always possible to eliminate IHT entirely and you may be worried about how your loved ones will pay the bill. Taking out a life insurance policy and placing it in a trust can ensure it doesn’t eat into the inheritance you leave behind, as the sum paid out by the policy can be used to pay the bill. Placing the policy in trust is important, otherwise, it would be considered part of your estate and may increase your IHT bill further.

Please note: The Financial Conduct Authority does not regulate tax or estate planning.