Unfortunately, Inheritance Tax comes at a time when we are already having to cope with the grief of a lost loved one and having to think about this tax is a major stress to compound this.
In addition, it’s a tax where some planning can be done via some simple measures if your loved one is prepared to take some steps.
What is Inheritance Tax?
Inheritance tax is a tax that might be due when you pass away and leave behind money, property, or belongings. The government takes a share of your estate if its value is above a certain amount. This amount is called the “threshold,” and for most people, it’s £325,000.
When Do You Have to Pay It?
If the total value of your estate (everything you own) is worth more than £325,000, anything over that amount might be taxed at 40%. But, if you leave everything to your spouse or civil partner, there’s no inheritance tax to pay at all, no matter how much your estate is worth.
What If My Spouse Has Already Passed Away?
If your spouse or civil partner passed away before you, you can combine their unused tax-free threshold with yours. This means you could potentially have a total tax-free threshold of up to £650,000. So, if your estate is worth less than £650,000, there would be no inheritance tax to pay.
Giving Gifts: The 7-Year Rule
You can also give away money or assets during your lifetime to reduce the value of your estate. If you give a gift and then live for at least 7 years after giving it, it won’t be counted as part of your estate for inheritance tax purposes. However, if you pass away within 7 years, the gift may still be taxed. The closer you get to the 7-year mark, the less tax might be due, thanks to something called taper relief.
Regular Gifts Out of Income
You can also give regular gifts out of your normal income, such as from your pension, and these gifts can be exempt from inheritance tax. The key is that these gifts must be part of your normal spending and shouldn’t affect your usual standard of living. It’s a great way to help your loved ones financially while reducing the size of your estate.
Wedding Gifts
If you’re giving a gift for a wedding or civil partnership, there are special rules. You can give:
- £5,000 if you’re the parent of the bride or groom.
- £2,500 if you’re a grandparent or great-grandparent.
- £1,000 if you’re anyone else.
These gifts are completely tax-free for IHT purposes, no matter when you pass away.
Gifts with Reservation of Benefit
Be careful with gifts that you continue to benefit from. For example, if you give your house to your children but keep living in it without paying rent, HMRC will consider it as if you never really gave it away. This is called a “gift with reservation of benefit,” and it means the value of the house could still be included in your estate for inheritance tax purposes.
To avoid this, you would need to stop benefiting from the gift—like moving out of the house or paying market rent—or live for 7 years after giving it without benefiting from it.
Reducing Inheritance Tax
There are several ways to reduce the amount of inheritance tax your family might have to pay, such as making use of your annual gift allowance (up to £3,000), giving regular gifts out of income, and planning ahead with larger gifts that fall under the 7-year rule.
There are also special rules if you leave your home to your children or grandchildren which might increase the IHT allowance.
Summary
This is a very brief guide to the way IHT works. As always, please speak to a professional advisor regarding this complicated tax especially if you would like to do some planning to reduce the IHT your Estate will pay.
