A Guide To Inheritance Tax

Whilst only a small percentage of estates are large enough to incur Inheritance Tax (IHT), it is still an important factor to consider when making your will. If inheritance Tax needs to be paid, we explain how to work out how much needs to be paid, when it needs to be paid and some ways the amount can be reduced. Here is our guide to Inheritance Tax.
What is Inheritance Tax?

Inheritance Tax (IHT) is the tax on the estate of someone who has died. This includes any assets such as physical possessions, money, and property. Even if no Inheritance Tax is needed to be paid, the amount inherited will still need to be reported to the HMRC.
 

How much is Inheritance Tax?

When the value of the estate is above £325,000 (this is the nil rate band), then tax will be liable at the rate of 40% on the amount above £325,000. However, this is not the final figure as you need to also take into account any debts the deceased had. Therefore, to accurately calculate the value of an estate you will need to list all the assets at the date of death (anything from property, to jewellery, personal possessions, money in the bank, shares, etc) and deduct any debts or liabilities they had (mortgages, credit card debt, funeral expenses, etc). After you have this figure, you can deduct any costs involved directly with the death such as solicitor fees. This final figure will be the one that determines whether any inheritance tax needs to be paid.

The nil rate band (NRB) is currently fixed until 2026. However, the NBR may be increased if you are widowed or a surviving civil partner. Couples can transfer any unused NRB when the first person died to the survivor. This in turn can double the amount of NRB available to £650,000. This additional amount is also referred to as transferable nil rate band (TNRB).

 

Gifts

Gifts need to also be included. Any gifts that were given away in the seven years before the person died needs to be included in the estate. Some gifts made before this may also need to be included. For example, if the deceased gifted their house to a relative but continued to live there. This is referred to as a “gift with reservations of benefit”.

Some gifts are not included such as some wedding gifts or charitable donations. How much tax applies completely depends on the type of gift as well as the value.

Usually, Inheritance Tax does NOT have to be paid in the following scenarios

• If the value of the estate is less than the £325,000 threshold.
• If you leave everything above the nil rate band to a spouse or civil partner
• If you leave everything above the nil rate band to a charity (or other exempt beneficiaries such as a sports club)
• If you give away your home to a child or grandchild, the threshold can increase to £500,000. This not only includes biological children. Step children, adopted children and foster children are all part of this group. However, other members of the family such as cousins, nieces, or siblings do not count.

 

Who pays Inheritance Tax?
If there is a will, it is usually the executor of the will who will have to arrange to pay the Inheritance Tax. If a will does not exist, it is the responsibility of the administrator of the estate. IHT can either be paid with funds directly from the estate or from money raised by selling certain assets.
Most IHT is paid through the Direct Payment Scheme (DPS). This means that if the person that has died had the funds in a bank or building society account, whoever is in charge of the estate can ask for some or all of the IHT due to be paid directly from the account through this DPS method.

When does Inheritance Tax need to be paid?
IHT needs to be paid within 6 months from the end of the month of the person’s death. If it is not paid before then, HMRC will start charging interest on the amount. It is possible to pay IHT in installments over 10 years. However, this is only available for certain types of property and will mean the outstanding amount is subject to interest until the entire amount is paid.

 

It is also important to note that to pay the IHT, the executor will have to get a reference number at least 3 weeks before the payment is made, which can be done online or by post.
 

Using life insurance

It is also possible to pay IHT owed through a life insurance policy. This method can make things easier for members of the deceased’s family after their death which makes it a popular route to go down. Most life insurance policies will count as part of the estate and will therefore be subject to IHT unless your policy is written “in trust” which can often be done at no extra cost when taking out your policy. Once you set up an insurance policy (usually a whole of life policy), after you die, the policy pays out to the trust, which might be used to pay all or part of the IHT bill. You can make your wishes clear in a side letter to guide how you want the policy money to be used.

Whilst this route can make things easier in some respects, the policyholder will need to keep up with the premium payments throughout their entire lifetime which can add up to a substantial cost. As you get older as well, the harder it is to get coverage.
How can I reduce the amount of Inheritance Tax owed?

Some methods can help reduce how much IHT is owed. However, these options can sometimes become complicated.

• Leaving a legacy to charity
• Leaving assets in a trust for your beneficiaries during your lifetime
• Leaving your estate to your spouse or civil partner
• Paying money into your pension rather than a savings account
• Regularly gifting up to £3000 a year

According to HMRC, only 1 in 20 estates in the UK are subject to Inheritance Tax. However, whilst this may not apply to many people, it is important to be aware of the threshold as assets can add up and you need to be aware of whether or not your estate will exceed the £325,000 threshold when you make your will. If it does, you need to be incorporate this into your financial planning as estate and tax planning can be a complicated process. If you want to know any more information regarding Inheritance Tax and whether this will impact you, then please get in touch. Our specialist team is here to help you.