Meg Saksida highlights the meaning of ‘closely inherited’ for the purposes of the inheritance tax residence nil rate band.
The Conservative manifesto in 2015 promised that the government would legislate to take the family home out of inheritance tax (IHT) on the death estate, and the residence nil rate band (RNRB) was the answer. The RNRB is a valuable relief, as each individual has up to £175,000 IHT free on their main residence if the conditions are satisfied.
The RNRB relies on the estate including a ‘qualifying residential interest’, which is essentially a residence that the deceased had used as their family home. The qualifying residential interest must also be closely inherited. ‘Closely inherited’ means that there has been a disposition to either a lineal descendant of the deceased, a person who is the spouse or civil partner of a lineal descendant at the time of the deceased passing, or a spouse or civil partner of a pre-deceased lineal descendant (as long as that spouse or civil partner has not re-married at the time of the deceased passing).
What is ‘closely’?
‘Closely’ inherited, first and foremost, means a lineal descendant who is the natural blood child of the deceased. Closely inherited also means remoter lineal descendants; hence, grandchildren, great-grandchildren and beyond (if alive) are all counted. However, blood relatives are not the only descendants counted for the purposes of the RNRB.
If the child was the deceased’s stepchild, any disposition made to them is also deemed to be closely inherited. Natural blood children who have been given up for adoption will be the direct descendants of both the natural and adoptive parents.
Example: Adoptive and birth parents
Jasmine was adopted at birth by June and Steven. When June and Steven, her adoptive parents, die, Jasmine inherits their family home, which is closely inherited according to the legislation for the RNRB.
Two years later, Ashley, Jasmine’s birth mother, dies and leaves Jasmine her family home. Ashley’s home is also closely inherited for the purposes of the RNRB.
Foster children are also direct descendants, and ‘closely inherited’ will apply to them. Finally, children for whom the deceased was appointed by a court order as a guardian or special guardian (as long as the appointment took effect at a time when the child was under 18) will also count.
What is ‘inherited’?
To be ‘inherited’, the property needs to have been beneficially owned by the deceased before their death, and it needs to then be in the beneficial ownership of the direct descendant after the death. This is enacted by one of the workings of the will: the law of intestacy or ‘other means’ such as the law of survivorship; through forced heirship; under a donatio mortis causa or through any other means on the death. Normally, the gift must be of the qualifying residential interest itself but sometimes (e.g., with the downsizing addition) it could be other assets in the estate.
Generally, the requirement is that the property leaves the death estate of the deceased and is then beneficially owned by the lineal descendant beneficiary. What the beneficiary then does with the property is entirely up to them. They do not have to retain it or use it as their home; in fact, they can dispose of it immediately if they wish, or the personal representatives can dispose of it during the period of administration and pass the cash to the direct descendants. Note also, that should the residence be inherited through a deed of variation, the variation is deemed to have altered the disposition of the estate at death and so if the residence was altered to be closely inherited, the RNRB would be available.
Inherited through a settlement
‘Inherited’ becomes complicated with settled property, either if the property was in a trust before the deceased died or is settled into a trust on their death.
For most lifetime trusts created post-21 March 2006, the trust property will be in the relevant property regime, and hence not be beneficially owned by the deceased; thus it will not form a part of the deceased’s estate. As such, a beneficial interest in the qualifying residence cannot be passed to a lineal descendant for RNRB purposes.
However, if the settlement was a ‘qualifying interest in possession’ (QIIP), the property will be beneficially owned by the deceased and will be in their death estate. In this case, it will depend on how the lineal descendant inherits the residence in the trust as to whether the RNRB is available. If the lineal descendant is simply a subsequent life tenant and therefore entitled only to the income or use of the property, this will not be enough to trigger the RNRB on the deceased’s death. This is because the trust will convert into a relevant property trust, in which the life tenant does not have a beneficial interest. However, if the lineal descendant is the remainderman, and the property passes beneficially to them on the death of the deceased life tenant, the RNRB will be available.
If the qualifying residential interest was in the deceased’s free estate but is settled into a trust on the death of the deceased according to either the deceased’s will or the laws of intestacy or other means (see above), it will depend on the type of trust and to whom it is left, as to whether the RNRB is available. If the trust gives an interest in possession to the lineal descendant, the trust is an ‘immediate post-death interest (IPDI), which is defined as a type of QIIP. Under the QIIP regime, the life tenant has a beneficial interest in the trust property and, as such, the property will be deemed to have been ‘inherited’ by the lineal descendant for the purposes of the RNRB. Likewise, if the property is settled on a disabled person’s trust, a bereaved minor’s or an 18-25 trust. However, a trust contingent on something such as the descendant reaching a certain age would not give a beneficial interest and would not be eligible for the RNRB.
On the other hand, if the trust is a discretionary trust it will not be inside the QIIP regime, but inside the relevant property regime instead. In this regime, no discretionary beneficiary has a beneficial interest in the property, so it will not be deemed to be closely inherited.
Gifts with reservation of benefit
If the deceased had disposed of the property but continued to benefit from it, it may be in their death estate as a ‘tax fiction’ in line with the ‘gift with reservation of benefit’ (GWROB) provisions.
As the property is deemed to be a part of the deceased’s estate, it can be considered as a qualified residential interest for the purposes of the RNRB, but of course, it is not able to be gifted at the date of the death as it has already been ‘disposed of’ in life. The disposition, then, is deemed to be made to the recipient of the property in the deceased’s lifetime; if this was a lineal descendant, the RNRB will be available.
Practical tip
Closely inherited only means children. Siblings, nephews, nieces, and other descendants who are not lineal descendants will not be counted as closely inherited.
