Inheritance Tax is a tax on the estate, such as property, money and possessions, of someone who’s died.
Income tax rises for Scots in April – how the changes affect you
Rachel Reeves will be challenged to rule out a series of tax hikes as the Tories force a Commons vote ahead of the Autumn Budget. The Chancellor is likely to have to find ways of raising money in the Budget to balance the books as she deals with sluggish growth, higher borrowing costs and U-turns over welfare savings.
Measures reportedly under consideration include scrapping the Capital Gains Tax exemption for expensive private homes and changes to Inheritance Tax rules. Ministers and officials have repeatedly declined to rule out tax-raising measures ahead of the budget, but the Tories will challenge the Labour Government to do so in a Commons vote on Wednesday.
Inheritance Tax can be a confusing tax and something you don’t often have to deal with until a death in the family. However, knowing the basics can help you understand the process and any changes that are announced in the Budget.
READ MORE: New calls to increase Inheritance Tax threshold to £1 millionREAD MORE: New and Basic State Pension payment rules after a spouse or partner dies
How does Inheritance Tax currently work?
Inheritance Tax (IHT) is a tax on the estate (the property, money and possessions) of someone who’s died.
Guidance on GOV.Uk explains that there is normally no Inheritance Tax to pay if either:
- the value of your estate is below the £325,000 threshold
- you leave everything above the £325,000 threshold to your spouse, civil partner, a charity or a community amateur sports club
If you give away your home to your children (including adopted, foster or stepchildren) or grandchildren your threshold can increase to £500,000.
If you’re married or in a civil partnership and your estate is worth less than your threshold, any unused threshold can be added to your partner’s threshold when you die.
Reme Holland, financial planning partner at accountancy firm Albert Goodman, explains that IHT only applies to assets that exceed those thresholds, which currently stands at 40 per cent.
Are there any exemptions?
Yes, particularly if you’re married or in a civil partnership. He explained: “A spousal exemption means that a husband and wife [for instance] could leave everything to each other, and no inheritance tax would be due.
“It would only be due on the second death, at which point both those allowances [of £325,000] could be combined.”
Other exemptions include “business property relief and agricultural property relief if you’re in farms and estates” and for those leaving their estate to a charity or a community amateur sports club.
“There is another exemption called the main residence nil rate band, which is a further £175,000 each for married couples,” adds Mr Holland. “One of the conditions for having that extra allowance is the property has to be left to direct linear descendants, so children and grandchildren.”
What about gifts?
Gifting is where things get more complicated.
Claire Exley, head of financial advice and guidance at Nutmeg., explained: “In most circumstances, there is no Inheritance Tax due on the value of gifts given seven or more years before you die. However, if you die within seven years of gifting money or another asset from your estate, then your loved ones may have to pay inheritance on the value of those gifts.
“How much, will depend on when you gifted the asset and its value.”
This is the Inheritance Tax relief taper. “If you die within three years of gifting money or assets, the IHT rate will be 40 per cent, this rate decreases each year, eventually reaching 0 per cent if you survive for seven years,” said Ms Exley.
There are rules about how much you can gift too – around £3,000 in a single tax year, with as many smaller gifts, up to £250 per person, also allowed. Birthday and Christmas presents are exempt.
Changes being proposed
One of the things the UK Government has mooted over the summer is putting a cap on how much can be gifted, and that cap could be somewhere between £100,000 and £200,000.
The second change the Labour Government has talked about is removing the taper. Mr Holland explained: “If you died at any point during those seven years, the full 40 per cent IHT would be chargeable on the value of that gift.”
What could this mean?
“In the grand scheme of things, these two changes to the value of lifetime gifts would affect those on the high end of wealth. The everyday person wouldn’t be impacted by a lifetime cap on gifts,” reassures Mr Holland.
“However, if you couple these with some of the changes that are possibly coming into effect over the next two years, such as the treatment of pensions, and also, if you’re a business owner, it then might start to have an impact on more people.”
What can people do to prepare?
Mr Holland recommends looking at your finances and speaking to an independent advisor so you’re informed about your options and can decide “whether there’s any scope to use surplus assets to make gifts” earlier.
“If there is going to be an Inheritance Tax, and you want to retain a family home, you could look at an insurance policy to pay the cost,” he adds. “You might want to ask your children, if they’re beneficiaries, to pay the cost of the insurance rather than yourself.”
He also suggests reviewing your will to make sure it “accurately reflects your assets”.
Ms Exley said you can consider making regular payments to loved ones too.
She explained: “There is no limit to the value of regular payments you can make to another person, for example if you’re helping with their living costs.
“These are known as ‘normal expenditure out of income’, but it could include things like paying rent or a mortgage for your child, contributing to a savings account or Junior ISA for a child under 18 or providing financial support to an older relative, perhaps to help with care costs.”
Full details on Inheritance Tax, including passing on a home, rules on giving gifts for those living in the UK and abroad can be found on GOV.UK.
