Is Inheritance Tax Voluntary?
Posted on 26th July 2023 at 15:54
We all know the age-old adage that there are two things you can count on in life: death, and taxes. So we rather assume that some taxes are unavoidable, like Inheritance Tax: it’s just a fact of life, isn’t it?
Hold on to your hats, because the answer may surprise you.
Inheritance Tax (IHT) is often referred to as a voluntary tax. Yes, you read that right - paying a 40% tax on any inheritance you receive is not a forgone conclusion.
“Inheritance Tax is a voluntary levy paid by those who distrust their heirs more than they dislike the Inland Revenue.”
— Roy Jenkins 1986
Before you pop the champagne, allow us to caveat this:
You can’t squirrel away assets in the hope that the government won’t notice (also known as deprivation of assets), but there are ways you can reduce inheritance tax, in some cases to nil, by carefully planning ahead.
What actually is Inheritance Tax?
Everyone has a personal inheritance allowance of £325,000.
IHT is applicable to estates worth more than £325,000 per beneficiary. For example, if your inheritance is worth £400,000, IHT would be applied to £75,000 worth of assets at a rate of 40% (which in this case would amount to £30,000 in tax).
Homeowners who plan to leave their property to direct descendants may be eligible to receive an additional allowance of up to £175,000, referred to as the Residence Nil-Rate Band (RNRB). By combining their allowances, married or civil partnered couples can maximise the worth of their estate up to £1 million (including RNRB) before incurring inheritance tax.
An estate encompasses all possessions from the house to investments like ISAs and savings (with the exception of pension plans, which are not considered a part of an estate).
So, with the above in mind, let’s take a look at the things you can do to offset IHT.
Gifting
You can reduce the value of your estate by gifting money or assets in your lifetime. This way, you could (for example) give your children money to help them get on the property ladder. Other than money, gifts include:
household and personal goods, such as furniture, jewellery or antiques
a house, land or buildings
stocks and shares listed on the London Stock Exchange
unlisted shares you held for less than 2 years before your death
If you decide to part with an item for less than its market value, the financial loss is also considered a gift. For example, when you transfer ownership of a house to your child for less than its worth, the difference in value would be viewed as a present.
Contrary to gifts, any property you intend to bequeath in your will is regarded as a part of your estate, which is all the possessions and property you have when you die. This value will be used to decide if Inheritance Tax is to be paid.
Gifts shared between spouses or civil partners are exempt from IHT. You can give them as much as you like during your lifetime, as long as they live in the UK permanently and are legally married or in a civil partnership with you.
There’s also no Inheritance Tax to pay on any gifts you give to charities or political parties.
The 7 Year Rule
Not quite the same as the 7 year itch, the 7 year rule relates to gifts: no tax is due on any gifts you give if you live for seven years after giving them (unless the gift is part of a Trust).
Should you pass away within seven years of making a gift, the amount of Inheritance Tax that must be paid on it is determined by how long ago the present was given. If the donation was presented within three years prior to your death, the tax rate is 40%. For gifts that were given between three and seven years ago, a sliding scale, referred to as taper relief, applies only if the total value of all presents in the seven years prior to your death surpasses the £325,000 threshold.
Trusts
Establishing a trust means transferring funds or property to another individual for safekeeping on behalf of someone else. For instance, you could set up a trust to safeguard money for your grandchildren and give them access to it at a later age.
Assets assigned to a Trust can potentially reduce IHT. As a result of the Trustees now owning the assets in the Trust, these are then not deemed to be part of your loved ones’ estate, and (managed properly and in a legally compliant manner) would not be subject to Inheritance Tax.
A Trust can also make regular payments to beneficiaries, rather than risking absolute distributions which could potentially increase the value of the estate and push past the IHT threshold, or open the inheritance to attack from marriage after death, divorce, bankruptcy or care fees.
Trusts may seem like a complex and daunting topic, but with Adept Asset Solutions, it's our speciality.
Our goal is to protect your assets and ensure your family's financial future is secured. We understand the importance of avoiding unnecessary Capital Gains Tax and mitigating inheritance tax, which is why we offer a wide range of services including Estate Planning, Wills and Trusts. By working with external legal services and utilising our own expertise, we are well-equipped to provide you with the best solutions for your unique circumstances.
Whether you need a simple Will, advice on protecting your assets or more complex issues, we're here to help.
Call - 01234 713021 - or drop me an email at tim@adpetassetsolutions.co.uk.
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