UK Inheritance Tax (IHT)

By Smithers

In the UK the wealth that a person leaves after death, their Estate, is assessed by the Government and can be subject to an Inheritance Tax (IHT).

UK Inheritance Tax (IHT) has a flat rate of 40% on amounts in Estates over a £325,000 threshold.

Amount Tax rate
Allowance Up to £325,000 0%
Rate Over £325,000 40%

See HM Gov: How Inheritance Tax works: thresholds, rules and allowances

There is no IHT on transfers of Estates between spouses or civil partners.  Furthermore, the IHT allowance can be passed to a spouse or civil partner so that if, say, the husband dies without having used any of his allowance, the wife has £650,000 of IHT allowance. 

There is also a "residence nil rate band" of £175,000 until 2026 that can be used against the value of your own home.  This provides a £500,000 allowance for someone inheriting a family home.  The "residence nil rate band" is also transferrable to a spouse/civil partner,  it has all sorts of caveats but is straightforward for transfers to direct descendants.  The combination of allowances should permit a couple to leave £1m of home to their children without IHT.  Full details of the IHT allowances can be found at: HMRC: Transferring unused residence nil rate band for Inheritance Tax

Inheritance tax can be lessened by giving gifts before death.  The maximum amount you can give tax free in a year is £3000 (HMRC Gifts). If you give money to several people the total for all of them cannot exceed £3000 a year.  If you give less than £3000 the surplus allowance can be carried forward to next year but only to next year.

If someone you know is getting married/partnered you can add these amounts to the annual allowance:

You can give amounts over the allowance of £3000 a year without them being taxed as part of your estate after death so long as you arrange to die 7 years or more after the gift :).  If you die early the rate of tax on the gift is as follows:

Taper relief

Years between gift and death Rate of tax on the gift
3 to 4 years 32%
4 to 5 years 24%
5 to 6 years 16%
6 to 7 years 8%
7 or more 0%

If you give away your home but still live in it this does not qualify as a gift and your home forms part of your estate.  This rule applies to anything that you give "on paper" but still enjoy.

It is possible to give away your home but after giving it away, you’ll need to:

(Do you trust your children? :)

There are still some ways of  reducing inheritance tax.  These are Business Property Relief, Agricultural Property Relief and the gift of a pension.  Agricultural Property Relief applies to farmers.   Business Property Relief  can involve: the gift of shares in your bona fide business (but not a "close company"), the gift of AIM ISAs,  Enterprise Investment Schemes and Seed Enterprise Investment Schemes.

Investment businesses (those that deal in property and shares) are unlikely to qualify for Business Property Relief.  

Investments in the Alternative Investment Market (AIM) will usually attract Business Property Relief and so avoid IHT.  The normal way of doing this is to purchase a commercial AIM ISA that is designed for IHT relief.   A spread of investments in AIM through an ISA reduces the high risk of the AIM.

Enterprise Investment Schemes can also attract Business Property Relief but these schemes are potentially riskier than AIM portfolios.  If you want yet higher risk the Seed Enterprise Investment Schemes are for you.

Although many workplace pensions and retirement annuities end at death some "drawdown pensions", especially Self Invested Pension Plans (SIPPS), have been designed so that they can be gifted to a nominated individual without IHT.   The rules are complex (See HMRC Tax on Pension Death Benefits). You can pass a SIPP on to sons or daughters etc. as their pension pot.

Pensions are a problem for people who run their own companies because they tend to take income as dividends and the maximum contribution to a pension is limited by their PAYE income, however you get tax relief on pension payments so the PAYE income can be raised by the amount of the pension payment.


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