Inheritance tax explained
Inheritance tax (IHT) is paid if a deceased person's total estate and certain gifts are worth more than £325,000 when they die. This level of £325,000 is known as the 'inheritance tax threshold' and is liable to change over time.
Who pays inheritance tax?
Usually paid by the 'executor' of the will or the 'administrator' of the estate using funds from the realisation of the estate. An executor is the person, or persons named, in the deceased person's will whereas an administrator is the person who deals with the estate if there is no will. If you are in receipt of inheritance then this will normally be paid after any inheritance tax liability has been dealt with. You may, however, be liable to tax on income received from assets passed to you as part of an inheritance such as share dividends or rental income. You may also be required to pay inheritance tax on gifts received from the deceased whilst they were alive. This is explained in more detail below.
At what rate is inheritance tax paid?
The current rate of inheritance tax is 40% on all assets above the inheritance tax threshold. This rate may be reduced to 36% if 10% or more of the estate is left to charity.
What are the timescales for paying any inheritance tax due?
In normal circumstances inheritance tax is payable within six months from the date of death. Inheritance tax can be paid in instalments over ten years for assets that are difficult to sell.
Are there any exemptions or reliefs from paying inheritance tax?
There a number of exemptions and reliefs from paying inheritance tax which I have detailed below.
- assets below the current IHT threshold of £325,000
- assets left to spouse or civil partner on death
- if an estate is below £325,000 any unused threshold can be passed on to a spouse or civil partner when they die - even if they remarry
- certain business, agricultural, and national heritage reliefs are available
- there are certain rules and reliefs in regard to passing on a home
- certain gifts as explained below
I suggest that you download this FREE guide to inheritance tax including the steps to cut your IHT bill. This is by far the best guide I've seen published on the subject. Once you've downloaded it go to page 9 where you will see a full list of the exemptions you can possibly claim to reduce your IHT bill.
New inheritance tax rules explained
In his Emergency Budget 2015 (also known as the Summer Budget) George Osborne announced changes to the inheritance tax rules (which took effect from April 2017) including a new inheritance tax allowance that now lets individuals pass on £500,000 free of inheritance tax. While married couples will be able to pass on £1million free of inheritance tax. So theoretically the new allowance means that people can now pass on a property worth up to £1million to their children without paying inheritance tax.
The new inheritance tax rules are as follows:
- On top of the existing personal inheritance tax threshold of £325,000 there is now a 'residence nil-rate band', often referred to as the 'main residence band' in place (introduced from April 2017). It was initially set at £100,000, but was subsequently increased by £25,000 each year and now currently sits at £175,000 (and will remain until 2025/26). So that means an individual is now able to pass on £500,000 without paying inheritance tax
- The catch is that the £175,000 allowance can only be applied to your main residence that is passed on to children or grandchildren
- The new inheritance allowance effectively means that a married couple or civil partnership will be able to pass on a total estate of £1 million free of inheritance tax
How is inheritance tax payable on gifts?
There are a number of rules regarding gifts made by the deceased during their lifetime, a summary of which is provided below. A gift can be anything of value such as money, property or other possessions or the sale of an asset at less than the market price.
7 year IHT taper relief rule
Under this rule the original owner of the asset gifted must live 7 years before the gift becomes free of inheritance tax. The amount of inheritance tax due reduces on a sliding scale over the 7 year period (known as taper relief).
0-3 years - 40% tax payable (100% of IHT due)
3-4 years - 32% tax payable (80% of IHT due)
4-5 years - 24% tax payable (60% of IHT due)
5-6 years - 16% tax payable (40% of IHT due)
6-7 years - 8% tax payable (20% of IHT due)
For a more detailed explanation of how inheritance tax taper relief works and how you can use it to your advantage read my article Inheritance tax taper relief on gifts explained.
Are there any gifts that are exempt from inheritance tax?
There are gifts that are exempt from inheritance tax which are:
- gifts of up to a value of £3,000 in each tax year, any unused amount can be carried over to the next tax year
- wedding or civil partnership gifts worth up to £5,000 to a child, £2,500 to a grandchild or great-grandchild and £1,000 to any individual
- individual gifts up to £250 not included in the above
- gifts from income providing the giver can maintain their normal standard of living
- gifts to help with other dependent person's living costs
- gifts to charities, museums, universities or community amateur sports clubs
- gifts to qualifying political parties
How to avoid paying inheritance tax (IHT)
There are numerous simple and legal ways to arrange your affairs to avoid paying inheritance tax. It just takes a simple bit of planning that anyone can do. Pages 9 to 11 in the recommended FREE guide to Inheritance tax contain real examples of how people have managed to pass on more of their wealth to their family with simple Inheritance tax planning. It is FREE inheritance tax advice that could save you £100,000s.
Image: Arvind Balaraman