What you really need to know about Inheritance Tax

Are you thinking about leaving assets or money to your loved ones after you pass away? It’s important to know that they might face a tax bill of up to 40 per cent on what you leave behind.

Your estate includes your property, savings, and other assets, after subtracting any debts and funeral expenses.

But don’t worry—there are ways to reduce or even avoid Inheritance Tax (IHT). You have a tax-free allowance, and you can also give away a portion of your money during your lifetime without it counting towards your estate or being taxed. This can help ensure more of your hard-earned assets go directly to your loved ones.

Here are a few things you need to know about IHT to find out if it could affect you and your loved ones.

Transfers between married couples

When one partner in a marriage or civil partnership passes away, there’s usually no IHT on transfers between them. So, if the first partner leaves everything to the surviving spouse or partner, no tax is due.

Also, it’s likely that the partner who passed away didn’t use up their nil-rate band, which means the surviving partner can add the unused portion to their own allowance. This effectively doubles the threshold, providing valuable tax relief for the surviving partner.

Tax-free allowance

Everyone is entitled to a £325,000 inheritance tax-free allowance. So, if the total value of the estate (excluding assets passed to a spouse/civil partner) falls below £325,000, no IHT is due.

Anything above this threshold will be taxed at a rate of 40 per cent. To determine the estate’s value, you’ll need to calculate the assets the person owned at the time of their death (such as cash, investments, property or business holdings, vehicles, life insurance payouts, etc.), and subtract any outstanding debts.

It’s possible to boost your allowance if you leave their home to their children or grandchildren. It’s important to note that this is not limited to biological family members, but also extends to adopted, step and foster children.

Should you choose to pass your main residence down to your children or grandchildren, you’ll receive an additional £175,000 allowance known as the ‘residence nil-rate band’. If your estate is worth more than £2 million, then you will not be eligible for this.

Planning for IHT

If you are part of the small percentage of people who are required to pay IHT, there are a few ways that you can reduce your bill.

For example, any gift given more than seven years before your death will not be subject to IHT. If they were given within those seven years, then they will be considered as part of your estate, albeit on a sliding scale of relief after the first three years.

During your lifetime, you’re entitled to a £3,000 ‘gift allowance’ annually, which is referred to as your annual exemption.

This allows you to give away assets or cash totalling up to £3,000 in a tax year without it being included in the calculation of your estate value for IHT purposes.

If you make any contributions or provide gifts to charity, they are exempt from IHT. If your charitable donation amounts to at least 10 per cent of your estate, any IHT owed elsewhere is reduced from 40 to 36 per cent.

Gifts intended to assist in covering the living expenses of a former spouse, a dependent elderly individual, or a child under 18 or enrolled in full-time education may qualify for exemption.

For expert advice on estate planning, contact our team of specialists.