Table of Contents
- What Is Inheritance Tax?
- How it Works?
- Inheritance Tax Rates Defined
- Tax on Inherited Property, Money and Shares
- How are Inheritance Taxes Calculated?
- Inheritance Tax Planning and Strategies in the UK
- Rules on Giving Gifts
- Inheritance Tax-Free Gift Allowance
- Inheritance Tax (IHT) Taper Relief on Gifts Explained
- Frequently Asked Questions
What Is Inheritance Tax? Nil-rate Band & Avoiding Inheritance Tax
Inheritance Tax (IHT) is a tax imposed on those who receive assets from the estate of someone who has passed away.
IHT is levied on the assets after deducting any liabilities, reliefs, and exemptions.
A person’s estate includes:
- Any properties they may own
- Money they have
- Any high-value possessions
There are many ways to pay IHT before you are legally obliged to do so. It can be paid from:
- The money raised by selling assets
- The funds that come from within the estate
It is payable upon the transfer of the estate to the recipients. Each beneficiary is responsible for paying their own IHT. It depends on the value of the estate they inherited. It falls under the jurisdiction of HMRC (Her Majesty’s Revenue & Customs). It is quite similar to the estate tax because the reason behind both of these is death. However, there are a few differences such as: In federal estate tax, the tax is applicable on the total estate value of the deceased person. It is paid by the estate of the deceased individual before transferring it to the beneficiaries. The tax on inheritance is applicable to the beneficiaries. It means that the beneficiary is liable to pay IHT on inherited assets.
How it Works?
In the UK, there is an inheritance tax threshold of £325,000. It means that anything below this amount will not be affected by IHT. This allowance has remained the same since 2010 and will not change in the tax year 2021/22.
- The value of your estate is below the inheritance tax threshold of £325,000 (also known as the nil rate band)
- You choose to leave everything above the £325,000 threshold to
1. Your spouse or civil partner
2. An exempt beneficiary
If neither of these exemptions applies, you need to pay IHT. Your estate will be taxed at a value of 40% on any assets above the threshold when you die.
Important Note: Even if your estate value is below the IHT threshold, you’ll still need to report it to HMRC.
Inheritance Tax Rates Defined in the UK
The tax rate on inheritance in the UK is known as the nil-rate band. It is the threshold above which IHT is payable. This is currently set at £325,000 and will remain fixed at this figure until April 2026.
In 2017, the government added residence nil-rate band (RNRB) to the inheritance tax nil-rate band. This is an additional amount that can be passed on tax-free against the family home.
The RNRB is worth £175,000 and can be combined with your existing nil-rate band, meaning that you can leave up to £500,000 tax-free.
Our Free Guide to reducing IHT
Explanation of Inheritance tax (IHT),
Including what assets pay tax, who pays when.
Which allowances you can use now and post-death.
How to avoid chargeable lifetime tax.
How to make tax-efficient gifts, you must take care when gifting.
Solutions on protecting your capital from IHT whilst you still enjoy an income.
How to pass money to your family without paying tax.
We also have unique products only available through us that can; use your primary residential home as part of your IHT tax planning and remove 100% of capital from your estate from day one, avoiding the 7-year rule.
Remove the inheritance tax guesswork!
How to Use Residence Nil-Rate Band?
To use the residence nil-rate band inheritance tax, you must stipulate that you are leaving your home to direct descendants.
The amount of RNRB available is restricted to the value of the home that is passed to the direct descendants.
For purposes of RNRB, the direct descendant is:
- A grandchild, a child, and other lineal descendants
- A wife, a husband, or a civil partner of a lineal descendant. It includes widower, widow, or surviving civil partner
This also includes:
- An adopted child
- A child fostered at any time by you
- A child who is, or was at any time, your step-child
- A child of whom you are appointed as a legal guardian
Direct descendants do not include those who are not mentioned in the list above such as:
- Siblings
- Nieces
- Nephews
- Other family relatives
More than one direct descendant can inherit the home of the person that’s died. The value of the home is shared in proportion among direct descendants.
Proper inheritance tax planning in the UK can help lower the rates of inheritance tax.
Tax on Inherited Property, Money and Shares
You can pass your residential property to your husband/wife/civil partner when you die. And there is usually no capital gains tax on inherited property to pay if you do the above-mentioned. Alternatively, you can choose to leave the home to another person in your will. It will count towards the value of the estate and may not help avoid tax liability.
It means that anything they inherit will be subject to inheritance tax and may have to pay capital gains tax, if there is a long term capital gain.
- Capital gains tax on the inherited property in the UK if you later sell the property or shares you inherited
- Tax on the interest you gain on the money or property you inherited
- Income tax on any direct or indirect profit you later earn from your inheritance, such as:
1. Rental income from a property
2. Dividends from shares
Important Note: If inheriting a home means now you own 2 homes, you will need to mention one of them as your primary home. You must declare to HMRC which home is your primary one within 24 months of inheriting it.
Who Is Liable to Pay Inheritance Tax?
Any person who receives assets from the estate of someone who has passed away is liable to pay inheritance tax. It is charged only on the portion of your inherited estate that is above the threshold limit.
For Example:
For an inherited estate worth £600,000, you don’t need to pay IHT on the entire amount. Your tax-free threshold value is £325,000. The inheritance tax bill will be 40% of £275,000 (the total value minus the threshold value) which is £110,000.
Important Note: You can pay inheritance tax at a reduced rate of 36% on some assets. All you need to do is leave 10% or more of the ‘net estate’ to a charity in your will.
What Is Net Estate?
- Funeral costs
- The costs of settling any debts
- Administrative expenses associated with trust/ probate
- Fees paid to the executor of the estate
- Fees for handling documents
- Any other allowable deductions
How are Inheritance Taxes Calculated in the UK?
The executors of your will need to work out the value of all your assets. They are expected to subtract any debts, bills or funeral expenses to calculate the net estate value.
The guide below provides a checklist of any assets that will be included when calculating the amount of inheritance tax you need to pay.
- Main property
- Other properties
- Investments
- Cash
- Insurance policies not in trust
- Other assets (vehicles, house contents, jewellery)
- Outstanding mortgage on your main home
- Outstanding mortgages on additional properties
- Loans, overdrafts, credit cards
- Other
- How much money will you be leaving to charity in your will?
- Will you be leaving property to your direct descendants?
- How much is the estate worth?
- What inheritance tax thresholds are available?
- Can you use any inheritance tax relief options?
- Is there any outstanding debt?
- How many gifts were given 7 years prior to death?
Our IHT calculator
To begin, we should start to calculate how much IHT is due on your estate. Then if you wish, we can offer a free consultation tailored to your specific needs.
If you wish, jump straight into the IHT calculator below to calculate inheritance tax, UK, or scroll down to here what some of our clients thought of the service.
For expert assistance for calculating inheritance tax due to be paid on your estate.
Inheritance Tax Planning and Strategies in the UK
Inheritance tax planning helps you decide what will happen to your estate when you die. It is the best way to ensure that you can reduce your inheritance tax bill.
The best inheritance tax planning advice lists these key things you should be aware of during your inheritance tax planning, UK:
Gifts to your partner or spouse
Married couples and civil partners can pass their assets on to their partners up to a limit. It won’t be subject to inheritance tax.
Unused allowance over the threshold limit
Any unused allowance following one person’s death can be carried over to their surviving partner. If you do not have a spouse or living partner, you could consider putting a part of your estate in inheritance tax planning trusts.
Annual gift allowance
There is also a £3,000 annual gift allowance that is exempted from inheritance tax.
Yearly gifts
You can also give up to £250 every tax year to anybody you know. This is also exempted from inheritance tax.
Wedding gifts
In a wedding/civil partnership, you can plan to give inheritance tax-free gifts on the marriage up to:
- £5,000 to a child
- £2,500 to a grandchild/great-grandchild
- £1,000 to any other relative
Gifts from your income
You can make gifts out of your normal income, as long as it doesn’t affect your standard of living. You can gift on various occasions such as:
- Birthday
- Christmas
- Regular payments
- Anniversary presents
- Life insurance policy premiums
7 years rule gifts:
Any gifts made in the previous 7 years may also be liable to inheritance tax. It depends on how much of those prior 7 years have expired. This is known as the 7 years rule. It is suggested by a majority of inheritance tax specialists.
- Gifts to charities : You can make inheritance tax-free gifts of any value to:
- Charities
- Universities
- Museums
- Community sports clubs
- Gifts to political parties: Gifts to political parties (with certain exemptions) are also exempted from inheritance tax.
- Gifts to assist with family maintenance: General gifts helping your relatives with living expenses are free from inheritance tax.
If you are looking for inheritance tax advice, in London, to make plans for IHT planning, let’s connect over a FREE Zoom call. We could help you with paying inheritance tax by instalments.
One of our financial advisors and inheritance tax accountants will be happy to talk you through your personal situation.
Rules on Giving Gifts
- Who you gave the gift to and their relationship to you
- The gift’s worth
- When you gave the gift
- Money
- Household or personal items such as furniture, jewellery, and antiques
- House, land or buildings
- Stocks and shares
Inheritance Tax-Free Gift Allowance for IHT Relief
If you live in the UK you have an annual inheritance tax free gift allowance worth £3,000.
This means that you can give away up to £3,000 each year. It will not add to the rest of your estate for inheritance tax purposes.
Furthermore, any part of your annual exemption that hasn’t been used can be carried over. However, it can only be used in the following year and not the year after that.
Gifting money before death can save you estate and gift tax.
Inheritance Tax (IHT) Taper Relief on Gifts Explained
- The gift was made more than three years, but less than seven years before the donor’s death
- The tax was already due on the gift
| The time between the date of the gift and the donor’s death (in years) | Percentage inheritance tax taper relief applied to tax due (in percentage) | Effective rate of tax on gift (in percentage) |
|---|---|---|
| 0–3 | 0 | 40 |
| 3-4 | 20 | 32 |
| 4–5 | 40 | 24 |
| 5–6 | 60 | 16 |
| 6–7 | 80 | 8 |
You can further make gifts to charities to lower the inheritance tax, and make tax planning easier.
How you can Avoid Inheritance Tax in the UK?
Make a Will
Writing a will is one of the simplest ways to avoid inheritance tax in the UK. It helps you ensure that your estate goes to the people you want. It allows you to decide how your assets will be managed after you die. It also allows you to plan for and reduce your IHT bill.
Stay below the Threshold Limit
In the tax year 2020/21, the inheritance tax threshold is £325,000. Also known as the nil rate band, it is transferable to a spouse or civil partner on death. If the value of your property is below the threshold limit, you pay no IHT as the rate is set at 0%. Go tax free.
Give away Assets
Give your assets (not all) such as shares and property away to avoid inheritance tax in the UK. However, you need to survive for at least 7 years. If you die before completing 7 years then inheritance tax will be paid on a reducing scale.
Put your Assets in a Trust
If you put your assets or only a part of your estate into a trust, these no longer belong to you, but you can use a trust to avoid inheritance tax. These assets are not included in your estate for inheritance tax. A trust is a separate legal entity. Setting up a trust fund to avoid inheritance tax protects your assets for your future heirs. You can also take income from your assets after putting these in a trust. All you need to do is put your assets in a trust with interest in possession. It helps you avoid IHT but is still has a tax liability of income tax.
Give away Capital Gains Tax Exempted Assets
You can give away your assets that have fallen value since you bought these. It helps you avoid paying capital gains tax on inherited property.
Take out Life Insurance
You can take out a life insurance policy to avoid IHT. Write your life insurance policy in trust to keep it separate from your estate. It will not directly reduce the amount of inheritance tax. However, an insurance policy will make it easier for your beneficiaries to pay the inheritance tax bill.
Leave Money to Charity
There will be no inheritance tax to pay on your estate given to charities. Donating at least 10% of your estate to charities decreases the tax amount due on the remaining. Your tax will be calculated at a rate of 36% instead of 40%.
Start Giving Gifts Now
If you earn more income than you spend, you can make gifts from your surplus income. Gifting out of your excess income helps you avoid inheritance taxes in the UK. There are no limits on the number of gifts you can make. However, the gift must come from your income and not the capital.
Spend your Assets
Spending helps your estate from getting bigger and producing a larger inheritance tax. It will not only improve your lifestyle but also ensures that you pay less inheritance tax. However, it is essential to find the right balance between spending today and securing your future. you should be careful not to spend your assets too quickly.
Buy a Funeral Plan
Funeral expenses are permissible deductions from a person’s estate for IHT purposes. The average funeral cost is between £3,000 to £6,000. Buying a prepaid funeral plan helps deal with this cost upfront. If you've been wondering about how to avoid estate tax, you've found the right place. Paying taxes and reducing the tax rate doesn't have to be complicated. Get in touch for estate planning.
FAQ's
Following are the risks involved in setting up a trust to avoid inheritance tax in the UK.
Overlooked Details
Setting up a trust involves complex legal documents and processes. If any of the documents and processes are not completed, your trust can fall short of your goals. Even the smallest mistake can make your trust invalid.
Unintended Emotional Implications
Setting up a trust has the potential to cause unfortunate potential emotional friction. Chances are your beneficiaries:
- Are unprepared for their new responsibilities or tax burden
- May become furious and resentful over family secrets
- Cannot agree amicably on how to share a joint asset left in trust
- Are struggling financially but they are restricted to tap any of their inheritance
Yes, You have the right to make as many changes in your will as you like. A will can be updated, modified, or amended at any time during your lifetime. It does not affect your right to deal with your property.
It is known as ademption. It happens when a mentioned item is no longer in the estate of the testator at the time of death. It could have been disposed of, destroyed, lost, or sold during the lifetime of the testator.
If it happens, the item adeems. It means that the gift item becomes moot and irrelevant. Your beneficiary cannot make any claim on that item or its reimbursed value against you or your estate.
If the value to your estate is below the inheritance tax threshold limit—£325,000, you don’t need to pay. However, you’ll still have to report to HMRC. For this reason, you need to calculate the total value of the estate.
Here’s how it’s done:
- Estimate the market value of all the estate’s assets
- Deduct any debts—unpaid loans, overdrafts, and mortgages to get the estate’s net value
- Subtract the value of tax-exempted assets such as:
- Charities
- Anything left to spouses
- Tax-free gifts
- Life insurance policy
- Deduct £325,000 (threshold limit) from the value you get after the above step
You are liable to pay 40% tax on anything that is leftover.