Inheritance Tax Photo of Ian Francis and Farley

Inheritance Tax - Why Should I Care?

When you die, inheritance tax is paid at 40% on the amount of your estate over the Nil Rate Band Threshold.

Here we’ll look at how it’s worked out, what allowances, rules and exceptions there are and ways to reduce your liability.

What’s Inheritance Tax - Why Should I Care?

When you die, inheritance tax is paid at 40% on the amount of your estate over the Nil Rate Band Threshold.

Here we’ll look at how it’s worked out, what allowances, rules and exceptions there are and ways to reduce your liability.

How’s Inheritance Tax Calculated?

The Nil Rate Band Threshold is currently £325,000. This means that if the total value of all your assets, including cars, property, cash, goods and investments is less than £325,000 there’s no tax to pay. Anything above this is taxed at 40%.

An example of this is:

  • Bob dies with an estate worth £425,000
  • The first £325,000 falls within his Nil Rate Band, so no tax is due on that element
  • The remaining £100,000 is taxed at 40%, so his estate must pay £40,000 to the taxman.

What's The Residence Nil Rate Band?

There’s an additional Residence Nil Rate Band that can be added to your standard Nil Rate Band.

To be eligible you must pass your home, or a share of it, to your children or grandchildren. This includes step-children, adopted children, foster children but not nieces, nephews or siblings.

The Residence Nil Rate Band gives you an additional allowance to reduce the inheritance tax against your home and is currently £175,000.

So in total, your nil rate for inheritance tax purposes could be £500,000.

Is there a married couple’s allowance?

Not as such but there’s no inheritance tax payable on the first death if you leave everything to your spouse or civil partner. They also inherit your nil rate band, which means a married couple enjoy a total standard nil rate band of £650,000. When the second person dies, the combined estate will be assessed against this, however this does not apply to unmarried partners.

So, a married couple may have a total nil rate against inheritance tax of £1 million.

Are there any exemptions?

Gifts to charity do not count as part of your estate so there’s no inheritance tax to pay on these. You may also give up to £3,000 away each year while you’re alive and it’ll not be counted as part of your estate. Gifts above this are subject to the seven-year rule.

What’s the seven-year rule?

If you want to reduce the value of your estate by giving away money or assets, you need to do so seven years before your death, so the value can be fully deducted from your estate. Otherwise, everyone would just give their stuff away on their deathbed to avoid inheritance tax. If you die before seven years has elapsed there’s a sliding scale as to how much tax you pay on the value of the gift you’ve made.

0-3 years before death = 40% tax to pay

3-4 years before death = 32% tax to pay

4-5 years before death = 24% tax to pay

5-6 years before death = 16% tax to pay

6-7 years before death = 8% tax to pay

7+ years before death = 0% tax to pay

Subject to the seven-year rule, you may give your assets away during your lifetime in order to reduce inheritance tax liability. These gifts can be direct to the beneficiary or into a trust to be accessed after your death. In both scenarios, you must not have benefited from, control of, or use the asset once it’s transferred, otherwise, it will not qualify as a reduction to your estate.

An example of this is:

  • You sign your house over to your children but continue living in the property. This would not qualify because you’re still benefiting from the asset.
  • You transfer ownership of your classic car to your son but still pop round and drive it every Sunday, this would not qualify as you still have use of the asset.

The seven-year rule does not apply to financial assessments for care fees.

How can I reduce my liability?

Gift to charity

  • Any gifts to charity during your life or in your Will do not attract inheritance tax.

Spend it while you’re alive

  • Spending money to reduce your estate is actually harder than you think. Say you blow £150,000 on an Aston Martin, your estate still includes a £150,000 Aston Martin so hasn’t reduced in value. In order to reduce your estate, you need to spend money on things that aren’t assets, which normally means day to day living expenses and holidays. The problem is you probably only have an inheritance tax problem because you’ve lived in a financially responsible manner! Remember that spending money on your family, even for things like holidays, can be seen by the taxman as a gift and could be taxed accordingly.

Give it away or put it in a trust while you’re alive

  • Giving your money directly to someone is pretty easy, there’s no tax involved so just write them a cheque. The hard bit is you might not think they’re ready for that kind of money but once you’ve given it, you no longer have control over how it’s spent.
  • One method is to put the gift into a trust while you’re alive. When you put the money in, it becomes an asset of the trust and not you as an individual. You can nominate fixed beneficiaries or leave that to the discretion of the trustees. However, what you can’t do is take money back out of the trust. Remember the seven-year rule applies to gifts in trust.
  • A Deferred Gifting Trust can help with pension planning. Pensions are not normally included in your estate for inheritance tax purposes. However, if you’ve nominated that your pension pays out to your spouse on death, it will increase their estate as it’ll be in their savings account rather than your pension. A Deferred Gifting Trust allows you to nominate that the pension’s paid into trust on your death. Once in trust your spouse can still benefit from it in the form of interest and discretionary withdrawals without it being included as one of their assets for inheritance tax purposes.

Accept that there will be tax to pay and get on with it.

  • Some people are happy to accept that tax is an inescapable fact of life. They just get on with it and expect their beneficiaries to pay the bill when they die. The advantage of this is there’s no planning or paperwork required, just an acceptance that you’re probably going to pay more tax than you possibly needed to.
  • You may choose to just accept there’ll be an inheritance tax liability because you’re not willing to relinquish ownership or control of your money while you’re alive but arrange a life insurance policy that’ll pay out a sufficient sum to pay the tax on your death. A calculation needs to be done of your possible inheritance tax liability, based on your likely future assets. An application is made for the life insurance to that amount needed and there’ll be a monthly premium to pay, which may increase as you get older. The life insurance must be written into the trust so the pay-out is kept separate from your estate. Simply arranging a life insurance policy that pays out when you die will actually increase your estate value and your inheritance tax bill.

If you’d like to find out if there are ways we can help reduce your inheritance tax bill, get in touch on 01522 788887 and we’ll chat through your options.


Please note: Tax and estate planning services are not regulated by the Financial Conduct Authority.


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