Tim Palmer looks at the current inheritance tax climate, problem areas and some of the planning opportunities available.
Inheritance tax (IHT) is a very expensive tax. Unfortunately, based on my experience in practice, it is the tax that many clients simply ignore and do not carry out the necessary planning for.
£1 million – free of IHT?
In 2015, the then Chancellor, George Osborne, issued his ‘£1 million inheritance tax (IHT) free’ statement. In very general terms, he was looking at a married couple with children and a family home. On the death of the first spouse, they would leave their estate to their surviving spouse. This would include their assets, investments and probably their half-share of the family home. In terms of IHT exemptions, the first deceased spouse’s nil rate band of £325,000 and the residence nil rate band (RNRB) of £175,000 would pass to the surviving spouse.
On the death of the second spouse, their estate would claim two lots of the nil rate band (£650,000) and two RNRBs in total of £350,000, hence the £1 million IHT free. The surviving spouse would leave the family home to the children, and £1 million of IHT nil rate band would be set against its value. This was George Osborne’s aim and plan.
Factors to consider
However, in 2023, the ability to distribute the £1 million IHT free towards the value of the family home is rather more complicated and often not fully possible or achievable. This depends on many factors, such as:
- marital status;
- whether there are any children;
- the value of the family home;
- the value of your estate on death; and
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the beneficiaries.
The RNRB was aimed at increasing the IHT nil rate band on death. It is available on death where, in general terms, the family home is left in your will to your children, grandchildren or other lineal descendants.
It must be noted that there is a tapered restriction and withdrawal of the RNRB for estates with a value of more than £2 million, at the rate of £1 for every £2 over this threshold. At present, the maximum RNRB available on the death of the second spouse is £350,000 (£175,000 x 2). However, if the second surviving spouse’s estate is worth more than £2.7 million, both RNRBs will be lost.
Careful consideration needs to be undertaken in calculating the net value of the client’s estate to see if it exceeds £2 million. The assets in the estate will include the family home and the value of your business or farm before any deduction for 100% business property relief or agricultural property relief. This seems incredibly unfair!
Accordingly, many estates, when including the value of their business in their estate, will exceed £2.7 million, and the RNRBs will be lost.
Deathbed planning
Where a client is terminally ill, there could be scope for IHT deathbed planning For example:
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The client could reduce their estate to under £2 million by means of some last-minute gifts in order that their estate will not lose the RNRB of potentially a maximum of £350,000.
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Unmarried partners may decide to marry or form a civil partnership in order that they can transfer assets from one another without IHT on death.
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A terminally ill individual who has young children could make considerable gifts regarding their ‘maintenance, education or training’ (exempt from IHT by virtue of IHTA 1984, s 11).
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Gifts can be made during their lifetime, and the formation of a trust can also be considered.
Conclusion
It is vital to undertake lifetime estate planning to reduce IHT liabilities. The individual frequently has a choice between paying for expensive (but necessary) advice or making an expensive mistake. IHT must not be the tax that clients simply ignore.
Practical tip
More complex IHT planning will be required when the individual’s wealth increases. It is also important to devise an IHT property planning strategy for individuals while they still have a good life expectancy.
