Inheritance Tax – The Basics


In the past five years alone, the number of families paying IHT has risen by 160%1, with over 45,000 families expected to pay IHT in 2016/2017 collecting £4.6bn for HMRC. This is three times the figures recorded in 2010 and exceeds levels last witnessed in 1979/80. The two main causes of this are rising house prices and the nil-rate band being frozen since 2009.

There are a number of estate planning strategies you can employ to help ensure a tax efficient transfer of wealth between generations and to make the most of your £325,000 nil rate band allowance.

Utilising available reliefs and allowances

There are a number of investment opportunities that offer access to relief from IHT.

  • Enterprise Investment Scheme (EIS) – Individuals are allowed to invest up to £1 million per year in EIS-eligible investments. Once the investment has been held for two years, it will normally qualify for business property relief (see below).
  • Business Property Relief (BPR) – BPR is available on assets that have been held for at least two years prior to death and can offer between 50% and 100% tax relief.
  • Agricultural Property Relief (APR) – APR is available on assets used for the purpose of agriculture. If occupied personally, like BPR, the asset must have been owned for at least two years and can offer between 50% and 100% tax relief. If owned but farmed by others, the ownership requirement increases to seven years.
  • Woodlands Relief – this special relief only applies to the growing of timber and only applies to the value of the timber. The land used for timber production may also qualify separately for APR as mentioned above.

There are several types of gift you can make throughout your lifetime to aid the tax-efficient transfer of assets to a beneficiary.

  • Exempt Transfers – transfers of up to £3,000 and gifts out of normal expenditure can be made tax-free between spouses and civil partners each tax year.
  • Potential Exempt Transfer – those gifts which don’t immediately fall into the tax-free list may become tax-free providing you survive for seven years after making the donation. Depending on the value of the gift, taper relief may be available after three years.
  • Chargeable Lifetime Transfers – where a gift doesn’t fall into either category above, it will be classed as a CLT. Transfers made into a discretionary trust or interest in possession trust will be treated as a CLT. Where the value of a CLT, combined with others made in the previous seven years exceed the nil rate band, IHT will be payable at 20%.

Life Insurance Held in Trust
Typically known as a ‘Whole of Life’ policy, these policies provide a non-contentious method of meeting any IHT liabilities. They can also be paid out before probate is granted, ensuring money is swiftly transferred to your heirs so they can pay any tax bill as soon as it’s due. If you have a policy that you want to be paid out to your beneficiaries upon your death to meet any IHT liability, you should always put the policy under trust, as it won’t count towards your estate when your IHT bill is calculated.

Whilst the sum assured is tax-free, the premiums paid will be regarded as a transfer of value, however these can usually be mitigated using one of the tax-free exemptions available within your annual allowance.

Deed of Variation

A deed of variation can be drawn up within two years of your death (subject to the agreement of all beneficiaries) and enables your heirs to alter your will after your death so that, for example, part of your inheritance can be re-directed to someone else.

Equity Release Schemes
If your wealth is tied up in property, restricting you from making use of gifts during your lifetime, you may be able to take out funds via equity release. However, the sum you take out will reduce the value of your estate upon death. This can be done in two ways:

  • Lifetime mortgage – borrow money against the value of your home. Whilst this offers a simple way to turn your assets liquid, with lifetime mortgages interest is ‘rolled up’ so your debt can swiftly grow. Be sure you don’t end up owing more to your lender than your estate would have paid in tax.
  • Home Reversion Scheme – sell part of your home at a reduced market rate but remain living there throughout your life. Again, whilst this may offer a guaranteed way to access illiquid assets faster, you need to decide if selling of a portion of your home at a reduced market value is the best solution to reducing your IHT liability.

Whilst it’s prudent to take steps to reduce your IHT liability, it is equally important to ensure you have enough money left to fund your retirement. Take advice from your financial advisor, who will be able to help balance your IHT tax bill with ensuring you’re not left struggling to make ends meet.

The Financial Conduct Authority does not regulate tax or trust advice.

1. Office for Budget Responsibility (OBR)
2. OBR statistics, analysed on p15 of Alternative Investment Report, 2016: Business Property Relief


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