Leave your money for your family, not the taxman
There are many things to consider when looking to protect your family and your home. Protecting your estate is ultimately about securing more of your wealth for your loved ones and planning for what will happen after your death to make the lives of your loved ones much easier. It’s not nice to think about, but it means that your loved ones can carry out your wishes and be protected from Inheritance Tax.
If you don’t make the right financial arrangements, your family could have to foot a hefty Inheritance Tax bill in the event of your premature death. Passing assets efficiently to the next generation remains a primary objective for many who have spent a lifetime accumulating their wealth. Providing funds for family members or a charitable interest is also an important way to see the benefit of your wealth during your lifetime as well as leaving a legacy.
Peace of mind
Making sure that you’ve made plans for after you’re gone will give you peace of mind. It’s not nice to think about, but it means that your loved ones can carry out your wishes and be protected from Inheritance Tax.
You don’t have to be wealthy for your estate to be liable for Inheritance Tax, and it isn’t something that is paid only on death, as it may also have to be paid on gifts made during someone’s lifetime. The rate of Inheritance Tax on death is 40% and on chargeable lifetime transfers at 20%.
Your estate will be liable if it is valued over the current Inheritance Tax threshold on your death. The Inheritance Tax threshold, or Nil Rate Band (NRB), is currently at £325,000 (2017/18). This amount has been frozen at £325,000 since 2009, and HM Revenue & Customs have confirmed that it will remain frozen at this level up to and including the 2020/21 tax year.
There is no accounting for inflation, and therefore the effect of this freezing of the NRB is such that increasingly more estates may have an Inheritance Tax liability.
Residence nil rate band
HM Revenue & Customs have accepted that an increasing number of individuals with relatively modest assets – and particularly where they relate mainly to the value of the house – should not be subject to Inheritance Tax. From 6 April 2017, they have introduced an additional NRB for deaths which occur on or after 6 April 2017 where the main residence passes to direct descendants.
The amount of the relief is being phased in over four years starting at £100,000 in the first year and rising to £175,000 for 2020/21. This is available to each individual, and therefore for a married couple this is potentially £350,000. On the second death of the couple, there will potentially be in effect a total NRB band of £1 million from 2020/21.
The additional NRB can only be used in respect of one residential property which does not have to be the main family home but must at some point have been a residence of the deceased.
The residence NRB may also be available where an individual downsized or ceased to own a home on or after 8 July 2015 where assets of an equivalent value, up to the value of the residence NRB, are passed on death to direct descendants. How this applies will be subject to conditions and depends on the total value of the estate and the home.
Any unused proportion of the NRB or residence NRB belonging to the first spouse or registered civil partner to die can be passed to the surviving spouse or registered civil partner.
Moving ownership of assets to your spouse or registered civil partner may help reduce the Inheritance Tax liability on your estate. However, don’t forget that this can cause an increased Inheritance Tax liability when they die. There are also exemptions if you make a donation to a charity.
If you can afford to make gifts during your lifetime, this will also reduce the value of your estate, and so your ultimate Inheritance Tax liability. You can make a gift of up to £3,000 a year without any Inheritance Tax liability, and if you don’t use this whole allowance, it can be carried forward to the next tax year. You can also give gifts of up to £250 a year to any number of people with no IHT liability.
There are two types of gift which currently have tax implications. The first is Chargeable Lifetime Transfers (CLTs). The most common chargeable transfers are lifetime gifts into Discretionary Trusts. A transfer will be charged if (together with any chargeable transfers made in the previous seven years) it exceeds the Inheritance Tax NRB (currently £325,000). Tax is paid at 20% on excess over the NRB.
The other type of gift to be aware of is Potentially Exempt Transfers (PETs). Gifts between individuals or into a bare trust arrangement are examples of PETs. These gifts are free from Inheritance Tax provided you survive more than seven years beyond the date of the gift. The other area to be aware of is that if you are making a gift but try to reserve any of the benefit for yourself, for example, retaining dividend income from shares you have gifted, or living rent-free in a property you have. The gift will not be effective for Inheritance Tax planning purposes.
Life insurance policy
Taking out a life insurance policy written under an appropriate trust could be used towards paying any Inheritance Tax liability. Under normal circumstances, the payout from a life insurance policy will form part of your legal estate and may therefore be subject to Inheritance Tax. By writing a life-insurance policy in an appropriate trust, the proceeds from the policy can be paid directly to the beneficiaries rather than to your legal estate and will therefore not be taken into account when Inheritance Tax is calculated. It also means payment to your beneficiaries will probably be quicker, as the money will not go through probate.
INFORMATION IS BASED ON OUR CURRENT UNDERSTANDING OF TAXATION LEGISLATION AND REGULATIONS. ANY LEVELS AND BASES OF, AND RELIEFS FROM TAXATION, ARE SUBJECT TO CHANGE.