Managing trusts and tax

Publish date

25 July 2017

IHT considerations for unmarried couples

There are certain practical steps cohabitees who want the same tax advantages as married couples can take – although the most sure-fire one does involve wedding bells.

The number of cohabiting unmarried couples in the UK is on the rise. The Office for National Statistics has confirmed there were around 3.3m cohabiting couples recorded in 2016. Whether young relationships or later life partnerships, many have no intention of getting married yet are unaware they do not enjoy the same legal rights and tax benefits as married couples.

Inheritance tax (IHT) is payable at 40% on death on assets in excess of the nil-rate band (currently £325,000). The full spouse exemption was introduced on 13 November 1974, which allowed married couples to leave their entire estate to their surviving spouse free of IHT.
If the nil-rate band (or part of it) goes unused on the first death – perhaps because the spouse exemption has been claimed – the remaining proportion of the nil-rate band can be transferred to a surviving spouse. The spouse exemption and the transferable nil-rate band allow spouses, if they wish, to pass everything to the survivor free of IHT.

Civil partnerships were introduced in 2004 and have the same effect for IHT purposes as marriage, allowing same sex couples to enjoy similar IHT benefits. Cohabiting couples are, however, the forgotten relationship and suffer disadvantages as a result of their decision not to marry.

What IHT considerations should cohabiting couples have?

If cohabiting couples wish to make provision for each other under their wills – even if only to the extent of enabling the survivor to remain in a property (which they might co-own) until the second death – there is no spouse exemption.

Gifts in excess of the nil-rate band will be taxed on the death of one of the cohabiting couple. This may result in a significant IHT bill, potentially leaving the survivor with insufficient liquid assets to settle the IHT liability. On the death of the surviving cohabitee, assets will suffer IHT again – potentially resulting in a double IHT liability.

Even simple gifts of assets between cohabitees may have adverse IHT, and potentially capital gains tax, consequences.

What happens if a cohabitee dies without a will?

Should a cohabitee die without a will – and recent research suggests some 53% of adults in the UK have not made one – the intestacy rules mean the surviving cohabitee receives nothing from the estate. In contrast, the intestacy rules make automatic provision for married couples.

The Inheritance (Provision for Family and Dependents) Act 1975 was introduced to protect the position of people who have been left out of the will of somebody they depend on for financial support. Again, the standard of provision that must be made for a cohabitee is lower than the standard for married couples, regardless of the length and extent of the cohabitation.

Is it fair that unmarried couples are at such a disadvantage? Some would say it is, arguing those who make the legal and personal commitment to marry should be rewarded with increased legal protection. Is the simple answer to get married, then, regardless of one’s personal views about marriage and the commitment required? This would certainly take the romance out of marriage.

How can cohabiting couples protect their assets?

So what could or should cohabitees do to protect their position? The simplest step is for them to make a will that makes provision for a surviving cohabitee. There are ways in which assets can be left under a will to an unmarried cohabitee in a tax efficient manner. Instead of leaving assets absolutely, for example, assets might be left into discretionary trust for the benefit of the surviving cohabitee and others.
A letter of wishes can accompany the will to guide the trustees on how to make provision for the surviving cohabitee for their lifetime and how to distribute the assets after the survivor’s death. This type of will will not avoid potential IHT liability on the first death, but it does stop assets forming part of the survivor’s estate, where they might be taxed again.

Discretionary will trusts do have their own IHT regime, so professional advice is necessary on whether this type of will is appropriate for the cohabiting couple’s circumstances.

Cohabiting couples should also check the manner in which they co-own any joint property to ensure that, on the first death, the share of the property passes as they expect and how they wish. A cohabitation agreement can also be prepared to provide certainty and reassurance.

How can cohabiting couples plan for better protection?

A final practical step for couples cohabiting in later life, each with separate families, should be to explain during their lifetime to their respective families what their intentions are with regard to their partner. A reduced or delayed inheritance might come as a surprise to some children. A frank discussion in lifetime can save later resentment and costly legal claims against an estate.

The question of the rights of cohabiting couples has not escaped the notice of the government. The Cohabitation Rights Bill 2017 is being debated, but it remains to be seen how this will progress and how quickly it will do so in the current political climate.

Its introduction might be very costly indeed for HMRC. In the meantime, as unromantic as it sounds, getting married is the best advice to cohabiting couples who want the same advantages as married couples. Do I hear wedding bells?

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