Inheritance Tax (IHT) and Estate Planning

Inheritance tax (IHT) and estate planning are complicated areas of financial management, with a range of aspects to consider – from investments and property to insurance and pensions. Whether you live in the UK or are overseas with assets back home, our estate planning experts will utilise various strategies to ensure a smooth transfer of assets to your loved ones, while minimising your IHT liabilities. Get in touch today for professional tax planning advice, or continue reading to learn more.

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What is Inheritance Tax (IHT)?

Inheritance tax (IHT) (also referred to as the “death tax”) is a tax that your beneficiaries must pay on your estate when you pass away. Your beneficiaries are the people who will inherit, usually your loved ones, and your estate consists of everything that belongs to you at the time of your death, including assets and properties.

IHT may also be payable on trusts settled, and gifts made during your lifetime, such as:

Gifts with reservation – gifts to another person from which you still benefit, such as a home where you still reside, a caravan you still use for holidays, or artwork still displayed in your house.
7-year rule – gifts made in the seven years before your death; see more below. You should keep records of what you gave and to whom, the gift’s value, and when you gave it.
Trusts – any assets which you hold in trust from which you still benefit.

If you haven’t planned effectively, inheritance tax can have substantial implications on your estate’s value. It’s the only tax that’s paid on a voluntary basis – in fact, IHT receipts hit an all-time high of £7.1 billion in the 2022/23 tax year.

However, with our tax team’s skilled planning, we can reduce or even eliminate the inheritance tax liability when you pass away, as much as is legally possible. The importance of good planning should never be underestimated, and advice should be sought as soon as possible. Contact our friendly team here.

How is Inheritance Tax Calculated?

The inheritance tax rate is 40% and is imposed on the value of your taxable estate above a certain threshold, known as the nil-rate band (NRB). For the 2023/24 tax year, the NRB is £325,000 per person, which means that any value of your estate up to this level is tax-free. However, when your estate’s value exceeds the NRB, it will typically be taxed at 40%.

IHT Spouse Exemption

It’s important to note that any assets transferred between spouses or civil partners are not liable for inheritance tax, due to the spouse exemption (as long as they live in the UK permanently and are legally married or in civil partnership with you). Plus, if you were widowed, and your spouse’s NRB was not used in the event of their death, their allowance can be transferred to you.

When to Start Inheritance Tax and Estate Planning

Due to the nature of IHT, many people often leave it too late to implement strategies that could have reduced the amount of tax to pay. Subsequently, any wealth passed on to the next generation will be significantly reduced. So, it is always advisable to start planning as early as possible and to keep plans up to date with changing circumstances.

We can carefully evaluate your estate or your family member’s estate, identifying what inheritance tax may be payable. Then, we will develop effective strategies to reduce, and, where possible, remove, the requirement to pay inheritance tax through short and long-term strategies.

Estate Planning and IHT Mitigation Strategies

Estate planning involves a range of strategies aimed at organising and distributing assets in a way that not only benefits your loved ones but also minimises the impact of inheritance tax. Below, you can see a vast range of estate planning techniques that have helped our clients so far.

Will Writing

First and foremost, you should draft a Will for tax efficiency (with help from experts), as this can help to reduce your tax bill significantly. You should also check that it is written correctly in a way that ensures the right people will benefit from your estate. For example, if you pass away without a Will (otherwise known as “intestate”), and you have children, your surviving spouse or civil partner will be entitled to the Statutory Legacy on intestacy (increased to £322,000) first, before the remainder is then shared between your partner and your children. You can read more on the new increase to the statutory legacy on intestacy here.

Please contact our estate planning experts to arrange a dedicated review. We can also advise on setting up Lasting Powers of Attorney (LPA).

Lifetime Gifting

Anything left in your Will does not count as a lifetime gift, but as part of your estate. However, depending on your financial circumstances, gifting a proportion of your assets to beneficiaries during your lifetime can help reduce your estate’s inheritance tax liability. Gifts include:

Money, including money lost when selling something for less than its market worth (e.g., the difference in the value of selling your house to your child rather than to a general buyer)
Household goods such as furniture, art, and antiques
Personal goods such as jewellery and vehicles
A house, buildings, or land
Stocks and shares listed on the London Stock Exchange
Unlisted shares held for less than two years before you passed away

7-Year Rule

Gifts made more than seven years before your death are generally exempt from IHT (unless the gift is part of a trust) – based on the 7-year rule. But, if you pass away within seven years of giving a gift, there will be inheritance tax to pay (if the total value of gifts is over the NRB threshold). The amount of IHT depends on the timing of the gift, a sliding scale known as taper relief:

3 years before death – taxed at 40%
3-4 years – taxed at 32%
4-5 years – taxed at 24%
5-6 years – taxed at 16%
6-7 years – 8%

Gifts Exempt from IHT

Certain gifts are exempt from inheritance tax regardless of when they are made, including transfers of assets between spouses and civil partners (see spouse exemption above), and gifts to charities or qualifying political parties. See more on charitable giving and tax here.

Allowances for Tax-Free Gifts

Every tax year, there is an opportunity to give away money or assets without incurring IHT. The extent of how much is tax-free is dependent on which allowances you use. These include:

Annual exemption – you can gift a total of £3,000 without the value being added to your estate. This could be to one person or split between several individuals. You can also carry forward any unused annual exemption, but for one tax year only.
Small gift allowance – for as many people as you wish, you can gift up to £250 per person, per tax year. Birthday and Christmas gifts from your regular income will not suffer an inheritance tax bill.
Gifts for weddings or civil partnerships – up to £5,000 for a child getting married, £2,500 for a grandchild or great-grandchild, and £1,000 for any other person.
Regular payments to help with living costs – such as paying rent, paying into a minor’s savings account, or financial support for an elderly relative. There’s no limit to how much you can give tax-free, as long as you can afford the payments after meeting your usual living costs, make a commitment to make regular payments over a long period, and you pay from your regular monthly income (known as “normal expenditure out of income”).

Gifts for weddings or civil partnerships, and regular payments, can both be combined with any other type of allowance, apart from the small gift allowance.

Using Trusts

Setting up trusts can work as effective tools for managing and distributing assets while minimising IHT. Types of trusts could include:

Bare trusts – where the trustee looks after the income until the beneficiary is old enough, often used to pass assets to young people.
Interest in possession trusts – the trustee must pass all trust income to the beneficiary as it arises.
Loan trusts – with a loan trust, you can withdraw original capital at any time, while the trust’s growth remains outside of the estate.
Discretionary trusts – a useful tool for family asset protection and wealth distribution, where the trust’s settlor determines who will benefit and when, rather than having a set distribution plan.
Disabled person’s trusts – there are special tax rules for disabled person’s trusts, where the usual inheritance tax rules don’t apply, i.e., the trust assets are not subject to inheritance tax when the disabled beneficiary dies.

You can also set up life assurance to pay out in a trust – this won’t reduce your inheritance tax bill, but the payout can help to cover the cost of IHT.

Utilising the Residence Nil-Rate Band (RNRB)

In addition to the standard nil-rate band, the residence nil-rate band (RNRB) applies to the main residence passed down to direct descendants. As of 2023/24, the RNRB is up to £175,000 per person. This can potentially result in a total tax-free threshold of up to £500,000 per person when combined with the standard nil-rate band.

Estate Freezing

This strategy involves moving assets out of your estate to prevent their appreciation in value from being subject to IHT. While effective, estate freezing requires careful consideration of tax implications and potential loss of control over the assets.

Business Relief and Agricultural Relief

Certain assets, such as businesses and agricultural land, may qualify for relief from IHT. Business Property Relief and Agricultural Relief can substantially reduce the IHT liability on such assets. Find out more on how to save inheritance tax with BPR here. Or, if you’re in agriculture, and are looking for services to support your needs, please see our accounting services for agriculture and farming here.

Inheritance Tax and Estate Planning Benefits

Any endeavour that can save a lot of money is worth the investment, and planning for the future is no exception. You work hard for your money, so let us help you pass more of your assets on to your family, rather than making a voluntary gift of 40% to the government. The earlier you start planning, the more strategies and approaches will be available to you for us to review and help you implement.

The savings that we can generate from inheritance tax can be substantial, leaving your family many thousands of pounds better off. It is reassuring to know that in the event of your death, you will leave enough money to your relatives for them to deal with any eventuality.

Need Advice on IHT and Estate Planning?

Navigating inheritance tax and estate planning requires a solid understanding of the rules and regulations, so it’s crucial to seek professional advice. With our estate planners’ and tax advisors’ expertise, we can help you devise a comprehensive estate plan that maximises the benefits of available exemptions, reliefs, and strategies. Safeguard your legacy, mitigate the impact of IHT, protect your loved ones, and ensure your assets are distributed according to your wishes – get in touch with us today either through our online form, by calling 01743 562430, or by emailing hello@mercianaccountants.co.uk.