Are you a property owner in the UK? If so, have you considered the implications of inheritance tax (IHT) on your estate property? As you accumulate wealth and assets over your lifetime, it’s likely you’re intent on passing down as much of it as possible to your loved ones, particularly your children. However, the specter of IHT can considerably diminish the value of your legacy if not adequately managed. Fear not, there are legal strategies to reduce your IHT liability and protect your hard-earned assets.
Understanding Inheritance Tax
Before we delve into the strategies to mitigate IHT, it’s crucial to ensure your understanding of the tax. IHT in the UK is a tax on the estate of someone who has died and is levied on the value of their assets, including property, possessions, and money. It’s applicable when the total value of these assets exceeds a certain threshold, known as the nil rate band.
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As of this writing, the IHT rate stands at 40% on anything above the threshold, which is currently £325,000 for a single individual. For couples, this threshold can be up to £650,000 if the first person to die leaves their entire estate to their surviving partner.
Efficient Use of Gift Allowances
One of the simplest ways to reduce the IHT liability on your estate is by making use of your gift allowances. The UK tax law allows you to make gifts of a certain value each year that are exempt from IHT, even if you die within seven years of making the gift.
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Each individual has an annual gift allowance of £3,000. Thus, if you haven’t used the previous year’s allowance, you can carry it forward to the current year, allowing for a potential £6,000 that can be gifted tax-free. Additionally, there are other exemptions for gifts such as wedding gifts, small gifts, and regular gifts from your income. Through careful planning and efficient use of these allowances, you can significantly reduce the IHT liability on your estate.
Property and the Residence Nil Rate Band
Another major aspect of IHT planning involves considering your estate property. The residence nil rate band (RNRB) introduced in 2017, provides an additional IHT-free allowance when you leave your main residence to your children or grandchildren.
The RNRB is currently £175,000 per person, thereby potentially increasing the IHT-free threshold for a couple to up to £1 million if it includes the family home. However, this allowance begins to taper off for estates worth more than £2 million. As such, it’s important to carefully structure your estate to fully utilize this allowance.
Trusts and Life Insurance Policies
Trusts are also a popular way of managing and protecting your wealth from IHT. When you place assets into a trust, they no longer form part of your estate for IHT purposes. While there may be tax to pay on assets put into a trust, it can be a worthwhile strategy for those with significant wealth.
In addition, taking out a life insurance policy written in trust can be an effective way to cover the IHT bill. The payout from the policy can be used to pay the IHT without eating into the value of your estate. However, remember to set up the policy correctly to ensure it doesn’t form part of your estate.
Leaving A Legacy to Charity
Finally, leaving a legacy to charity can not only support a cause you care about but also reduce your IHT liability. If you leave at least 10% of your net estate to charity, it will reduce the IHT rate on the rest of your estate from 40% to 36%. Moreover, any money left to charities is free from IHT, thus reducing the overall value of your estate for tax purposes.
In summary, with some forethought and strategic estate planning, you can significantly reduce the IHT burden on your estate properties. Whether it’s through making use of gift allowances, utilizing the RNRB, establishing trusts, taking out life insurance policies, or leaving legacies to charity, there are legal options available to you. Remember to review your estate regularly and consider seeking professional advice to ensure your plans are effective and in line with any changes in tax legislation. With careful planning, you can safeguard your wealth and ensure your legacy remains intact for your loved ones.
Using Equity Release to Lower Inheritance Tax
Equity release is a method frequently employed by homeowners to reduce the value of their estate, and subsequently, their inheritance tax bill. This course of action involves homeowners taking out a loan against the value of their property, which is then repaid (along with interest) upon the sale of the house, usually following their death. In this way, the value of the property within the taxable estate is reduced, which in turn decreases the inheritance tax due.
A lifetime mortgage, which is a common form of equity release, allows you to borrow a portion of your property’s value while retaining ownership. The loan is repaid when you die or move into long-term care, and any remaining equity in the property can be passed down to your loved ones.
Bear in mind that equity release isn’t suitable for everyone and it can impact your entitlement to means-tested benefits, so it’s important to seek professional advice before proceeding. Importantly, funds released by equity release can be gifted using the aforementioned gift allowances, further reducing potential inheritance tax liability.
The Role of Capital Gains Tax
While considering inheritance tax, another tax that estate owners should be aware of is capital gains tax. Capital gains tax is charged on the profit you make when you sell, give away, or otherwise dispose of something that’s increased in value. This tax could be relevant if you sell a property that’s not your primary home, shares, or other valuable possessions.
However, it’s worth noting that assets transferred upon death do not incur capital gains tax. Instead, the inheritor acquires the asset at its market value at the time of death, known as the ‘probate value’. If they later sell the asset and it has increased in value, capital gains tax may be due on the difference between the probate value and the sale price.
Reducing the impact of capital gains tax requires strategic planning. For instance, you could strategically distribute assets during your lifetime to make use of the annual tax-free allowance. As of this writing, the tax-free allowance stands at £12,300 per tax year for individuals and £6,150 for trusts.
Remember, the key is not to view each tax in isolation. Instead, consider all potential liabilities and plan accordingly to ensure maximum tax efficiency.
Conclusion
Inheritance tax can be a significant portion of the value of an estate in the UK. However, with strategic planning and careful use of allowances, exemptions, and reliefs, it is possible to legally reduce the inheritance tax bill.
Whether through the efficient use of gifts, making full use of the residence nil rate band, placing assets into a trust, taking out a life insurance policy, leaving a portion of your estate to charity, using equity release, or strategically planning for capital gains tax, there are numerous ways to safeguard your estate.
Nevertheless, tax rules can be complex and may change from year to year. Therefore, it is advisable to seek professional advice to ensure that your plans are not only effective but also comply with the latest tax laws. This way, you can preserve your hard-earned wealth and pass on your estate to your loved ones in the most tax-efficient manner possible.
