Inheritance Tax

There is an annual Inheritance Tax exemption of £3,000 for gifts. This exemption can also be carried forward to the following tax year if not used to make a maximum gift of £6,000. You can also give unlimited individual gifts of up to £250 per person during the tax year, but only if you haven’t used another exemption on the same person. There are additional, special allowances for gifts made at a wedding or civil ceremony.

Use the following relief to exempt regular financial support to your family

It is also possible for wealthier taxpayers to make tax exempt gifts and payments that are paid as normal expenditure out of income. This is a very flexible exemption from IHT as there are no specific requirements such as having to make fixed regular gifts to the same person. With proper planning this can be a very useful tool. For example, to enable grandparents to help pay school fees for their grandchildren.

However, careful consideration has to be given to ensure that these payments form part of the transferor’s normal expenditure and is made out of income and not out of capital. The person gifting the money must ensure that they are left with enough money to maintain their normal standard of living out of their regular income after making the gift.

If you are unsure if your family arrangements are covered by this relief from IHT, please call for further advice.

If you inherit property, money or shares you are usually not liable to pay tax on the inheritance. This is because any Inheritance Tax (IHT) due should be paid out of the deceased’s estate before any cash or assets are distributed to the heirs.

There is normally no tax to be paid by the deceased’s estate if the value of the estate is below the IHT nil rate threshold of £325,000. There is also an IHT main residence nil-rate band (RNRB) that was introduced in April 2017. The RNRB will ultimately allow for a £175,000 per person transferable allowance for married couples and civil partners when their qualifying main residence is passed down to children after their death. The RNRB is in addition to the £325,000 IHT threshold.

If you receive an inheritance, you will be liable to Income Tax on any profit earned after the inheritance, such as dividends from shares. You may also need to pay Capital Gains Tax (CGT) on any increase in value on assets after the date of inheritance, if the same assets are sold or otherwise disposed of.

The main exception is if you received a gift during a person’s lifetime. These lifetime transfers are known as Potentially Exempt Transfers (PETs). These gifts or transfers achieve their potential of becoming exempt from IHT if the taxpayer survives for more than seven years after making the gift. If the person making the gift dies within 3 years of making the gift, then IHT is payable as if the gift was made on death.

A tapered relief is available if death occurs between three and seven years after the gift is made. There are insurance products such as a seven-year term assurance policy that can be used to reduce the amount of IHT due should the taxpayer pass away within seven years of making a gift. You may also have to pay IHT if your inheritance was put into a trust and the trust can’t or won’t pay any tax due.

Most gifts made during a person’s life are not subject to tax at the time of the gift. These lifetime transfers are known as ‘potentially exempt transfers’ or ‘PETs’. These gifts or transfers achieve their potential of becoming exempt if the taxpayer survives for more than seven years after making the gift. If the taxpayer dies within 3 years of making the gift, then the Inheritance Tax position is as if the gift was made on death. A tapered relief is available if death occurs between three and seven years after the gift is made.

A transfer of a property where the estate of another individual is increased may still be treated as a gift to an individual provided two conditions are satisfied. These are that the property does not become comprised in the estate of another person (not ‘individual’), but the estate of another individual is increased.

HMRC’s internal Inheritance Tax manual provides the following example to illustrate this point: Christina owes Penelope, a parent, £50,000. Penelope forgives the debt. This is a transfer of value since the value of Penelope’s estate is diminished by the disposition. This transfer can potentially be a PET.

Planning note

It would seem good practice to keep a list of any PETs that clients make. It is also important to keep a record of any exemptions that are used as well as details of any regular gifts made out of surplus income.

The Inheritance Tax rules can be difficult to fathom when an expat or another person with connections to the UK living outside the country dies. The liability to Inheritance Tax in the UK depends primarily on the domicile of the deceased. If the deceased is deemed to be domiciled in the UK for tax purposes, they will generally be subject to Inheritance Tax in the UK regardless of where they died. It is important to note that this is different to being classed as a non-resident for tax purposes.

HMRC will treat any person who has been resident in the UK for more than 15 of the previous 20 years as deemed domiciled in the UK for tax purposes. The deceased will also be treated as being domiciled in the UK if they had their permanent home in the UK at any time in the last 3 years of their life.

If the deceased has a non-UK domicile, then Inheritance Tax is only paid on any UK based assets such as property or bank accounts in the UK. Inheritance Tax would not be payable on ‘excluded assets’ like foreign currency accounts, overseas pensions and holdings in authorised unit trusts and open-ended investment companies.

This a complex area and professional advice should be taken to minimise any liability to Inheritance Tax in the UK if someone is living abroad. The rules can also mean that there is a liability to Inheritance Tax in more than one jurisdiction and that double taxation treaties need to be carefully considered. Failure to take into Inheritance Tax planning into account could lead to a greatly increased tax liability.

Business Property Relief (BPR) is an attractive tax relief for taxpayers with business interests, offering either 50% or 100% relief from Inheritance Tax (IHT) on the value of their business assets if certain conditions are met. The relief can even be used whilst the donor is still alive, and the estate can still get BPR on qualifying assets.

An interest in a business or a company will not qualify for BPR if the business carried on by the entity consists wholly or mainly of making or holding investments. This fact drives HMRC’s view that furnished holiday lets will in general not qualify for business property relief and it is rare that a successful claim for BPR can be made for these types of assets, but it is a grey area.

However, HMRC’s own guidance can prove instructive. HMRC accepts that ‘there may however be cases where the level of additional services provided is so high that the activity can be considered as non-investment, and each case needs to be treated on its own facts’.

This specific area of HMRC’s guidance has been the subject of much case law. Where a taxpayer can prove that their holiday let business does far more than purely holding investments, such as providing additional services to holiday makers, there can be scope for claiming BPR.

HMRC is likely to reject such BPR claims in the first instance, and previous case law suggests that significant additional activities would need to be offered to move the nature of a holiday let from an investment to an active business.

New rules were introduced by the Government in 2015 that allow for the spouse or civil partner of a deceased ISA saver to benefit from additional ISA benefits. Under the rules, if an ISA saver in a marriage or civil partnership dies, their spouse or civil partner inherits their ISA tax advantages.

Surviving spouses are able to save an additional amount in an ISA or ISAs up to the value of their spouse or civil partner’s ISA savings at the date of death. This additional allowance does not count against the surviving spouse’s/civil partner’s annual ISA subscription limit. These measures were put in place to help ensure bereaved individuals secure their financial future and enjoy the tax advantages they previously shared, following the death of their spouse or civil partner.

In general, assets left to a spouse or civil partner are not subject to Inheritance Tax. However, ISA investments continue to form part of the deceased estate for Inheritance Tax purposes. In essence, this means ISA’s left to anyone apart from your spouse or civil partner will be subject to Inheritance Tax if the value of the estate exceeds the current IHT tax-free limit of £325,000. This effectively removes the tax-free status of any ISAs at the time.

ISAs allow equal limits for cash and stocks and shares. This provides savers with the ability to transfer funds from stocks and shares ISAs to cash ISAs allowing far greater flexibility to savers than was historically the case. The maximum amount that can be invested in an ISA is currently £20,000, the limit will remain the same in 2019-20. The income from ISAs is exempt from Income Tax and CGT.

The Inheritance Tax main residence nil-rate band (RNRB) came into effect on 6 April 2017. The RNRB is a transferable allowance for married couples and civil partners (per person) when their main residence is passed down to a direct descendent, such as children or grandchildren, after their death. The RNRB is on top of the existing £325,000 Inheritance Tax nil-rate band (NRB) threshold.

The RNRB is being introduced in stages; it commenced at £100,000 in 2017-18, increased to £125,000 in 2018-19 and will increase to £150,000 in 2019-20 and £175,000 in 2020-21. Any unused portion of the RNRB can be transferred to a surviving spouse or partner in a similar way to the existing NRB. Taken together with the current Inheritance Tax threshold this means that by 2020-21, parents will be able to pass on property worth up to £1 million free of Inheritance Tax to their direct descendants.

However, there is a tapering of the RNRB for estates worth more than £2 million even when the family home is left to direct descendants. The additional threshold will be reduced by £1 for every £2 that the estate is valued at more than the £2 million taper threshold. Essentially, this means that no RNRB will be available for estates in 2018-19 that are worth more that £2.25million. Tapering can also reduce the amount of additional threshold available to transfer to a surviving spouse or civil partner even if no additional threshold is used on the first death.