What is the best way to reduce your exposure to Inheritance Tax?

This article first appeared in Wealden Times.

There has been much speculation that changes to Inheritance Tax (IHT) may be included in the October Budget. Whether this happens remains to be seen, but regardless, IHT liabilities are increasing, with the latest figures from HMRC showing that IHT liabilities created for the tax year 2021/22 were £5.99 billion.

So, what is the best way to reduce your exposure to IHT? The first thing everyone should do is have an up to date will to prevent your estate passing under the intestacy rules, which often produce unintended tax consequences.

How do IHT exemptions work?

There are various exemptions to IHT. The majority of gifts to legal spouses (including marriage and civil partnership), whether made during your lifetime or after death, are free of IHT.

Everyone has a Nil-Rate-Band of £325,000.  You may also have a Residence Nil-Rate Band if you are leaving your main home to children or grandchildren and your estate is worth under £2 million. This provides an additional £175,000 allowance. These allowances can be transferred between spouses, which means that up to £1million could be passed on free of IHT to children or grandchildren. Above these amounts, IHT is usually charged at 40%.  Be aware that gifts made during your lifetime can reduce the amount of the Nil-Rate Band available on your death.

Other exemptions include generous reliefs on business property (Business Relief) and agricultural property (Agricultural Relief).  Any money gifted to a registered UK charity is also exempt from IHT, and a lower IHT rate of 36% also generally applies so long as 10% of the residuary estate passes to charity.

Lifetime gifting and IHT

Gifting assets is a simple way to reduce your estate. This includes gifting property, but there are strict rules around this including that you cannot continue to benefit from it – for example by still living in it. These gifts are usually Potentially Exempt Transfers (PETs) and will not be liable for IHT so long as you do not die within seven years of making them.

You can also make various gifts outside of this seven year rule, which will not attract an IHT charge. For example each person can give away £3,000 a year. It is also possible to make regular gifts out of income, which are exempt from IHT, but you must be able to prove these form part of your normal expenditure, are from income and not capital and do not impact your standard of living.

Can trusts help with IHT?

Placing assets in certain types of trust can mean they are no longer considered part of an estate when it comes to IHT.

If a beneficiary inherits from an estate, but wishes to remove that inheritance from their own estate for IHT purposes, a deed of variation can be used to create a trust, and the beneficiary will potentially still be able to benefit from the inheritance going forward.

You can also nominate a trust to receive death-in-service benefits or place life insurance policies into a trust with the funds remaining fully available to your family should they need them, without incurring an IHT liability.

A Family Investment Company is a bespoke private company, which can be used as a tax-efficient alternative to trusts if there is a large amount of cash involved.

Pensions should also be considered. In most cases, pensions, either as lump sums or ongoing pensions, can pass free of IHT. There is currently no cap on the lifetime allowance you can save into a pension.

With all of these elements, it is essential to take expert advice. Get in touch info@ts-p.co.uk