Inheritance Tax can be a very daunting and complicated area. This blog aims to support you by explaining the process of doing your IHT calculations correctly so that you can have a clear understanding of what your inheritance tax problem is.
Before solving any inheritance tax problem, you must determine whether you are liable for any inheritance tax. This involves something called your domicile. Essentially, you are deemed domicile if you have lived in the UK for 15 out of the last 20 years (or were born in the UK). This means that all your worldwide assets will be liable to UK inheritance tax. If you are not domiciled, then UK inheritance tax will only be applied on your UK assets. Regardless of whether or not you are domiciled, you will still be entitled to the normal allowances.
What are the Allowances?
Every person is entitled to what is called a Nil Rate Band (NRB). This is currently £325,000, and this increases in line with the Consumer Price Index (CPI).
Every person who has a home in the UK over the value of £175,000 may also be entitled to a Residential Nil Rate Band (RNRB). This also increases with CPI. If your assets on death are over £2 million, you will lose £1 of the Residential Nil Rate Band for every £2 of assets over £2 million. You will lose the full Residential Nil Rate Band if your assets on death are over £2.7 million.
These allowances are transferable to a civil partner or spouse on your death
What happens if you’re Widowed?
In this situation, the assets will pass to the spouse after the first death. If the assets are divided, then a percentage of the unused Nil Rate Band is passed to the surviving spouse.
If you were widowed in the past (and your deceased spouse chose to pass everything to you) and now you are remarried, then you will have an extra Nil Rate Band Allowance and an extra Residential Nil Rate Band Allowance.
To ensure that these allowances are all claimed, you will need to do some careful planning and utilise Trusts. It is certainly worth speaking to a specialist Adviser for this.
Examples in Practice
Let’s imagine a married couple have assets worth £1.5 million. This means that their allowance will be £325,000 + £175,000 x 2 (married or widowed) = £1 million allowance.
If the first spouse passes everything to the partner on the first death, there is no tax. However, on the second death, the remaining £500,000 (£1.5 million in assets minus the £1 million allowance) is liable to IHT at 40%, meaning that there is £200,000 due to be paid in inheritance tax.
Any gifts made in the past seven years must also be taken into account in the calculations.
Now imagine that we have a married couple who have assets worth £3 million on death. This would mean that they lose both of their Residential Nil Rate Bands (as the value is over £2.7 million).
This means that their allowance would be £650,000 (£325,000 NRB x 2)
£3 million - £650,000 = £2,350,000
£2,350,000 x 40% = £940,000 inheritance tax Payable.
This is a very significant amount of tax. To decrease the amount of tax to be paid, you can do a number of things such as make death bed gifts. If you can reduce your Estate's value so that it is under £2 million, this would significantly decrease the amount of IHT owed. However, you need to be careful about how you do this, so specialist advice and help are essential.
The biggest mistake to avoid
You can use the Bluebond website calculator to determine what your inheritance tax liability is likely to be. This is important as many people do not project the potential inheritance tax payable when you are likely to die. Your inheritance tax could potentially double every 15 years. Projections could involve the value of your property rising at 3-3.5% a year. You must take action early enough – especially if you have a large Estate!
Like all matters related to Estate Planning and inheritance tax, experienced advice is essential.
Call us if you require any help.