Top Inheritance Tax Planning Tips | Avoid & Reduce IHT
Top Inheritance Tax Planning Tips
What are the different ways to reduce inheritance tax? | Avoid Inheritance Tax
Top Inheritance Tax Planning Tips – Whenever a probate property is left behind by the Will of a deceased, the property, as well as the chattels (belongings) within the property, would all be subject to inheritance tax. This, therefore, mean that before anything can be distributed or sold, everything, including the chattels, must be revalued for inheritance tax calculation purposes.
Inheritance Tax (IHT) threshold remains at £325,000 for the tax year 2019/20. This allowance has stayed the same since the 2010/11 tax year (Click here for the most up-to-date inheritance tax thresholds set by the UK government). This means that anything over the £325,000 allowance in an estate would be subject to a 40% inheritance tax.
There is a misconception that only gifts given upon death are subject to inheritance tax. This is incorrect. Inheritance tax is, in fact, payable on all qualifying gifts given up to 7 years prior to the death of the deceased. The taxable rate decreases as the time of giving the gifts become more distant from the time of actual death. Due to this tax rule, inheritance tax rates may vary from 8% to 40% (in increments of 8% depending on the year).
Nobody ever wants to pay tax, in whatever form it may be. Just like most other forms of tax, though, there are ways to reduce one’s inheritance tax liability. The following are ways in which one may be able to mitigate or avoid inheritance tax.
Making a Will
The first and foremost task one should do is to write up a Will. Without a Will, assets would be divided under the intestacy rules and thus would likely be liable to inheritance tax. Careful inheritance planning will ensure that inheritance tax will be minimised.
Gifting to Spouses or Civil Partner
If you are already married or are in a civil partnership, you are legally allowed to gift anything of any value to your other half without it being subject to inheritance tax. Rules on this differ if your spouse’s or civil partner’s permanent home was outside of the UK or if they were not born within the UK.
One should also note that inheritance tax allowances are transferrable between spouses upon death. This, therefore, means that the potential inheritance tax allowance for the widow would be £650,000. If the deceased’s estate is worth, for example, £300,000, then the spouse may only receive an increase of £25,000 in inheritance tax allowance if the full £300,000 estate were to be gifted to other individuals.
Main Residence Inheritance Tax Allowance
A summer budget drawn up in 2015 allows an allowance of £150,000 for the main residence of the deceased for the 2019/20 tax year. This is set to increase to £175,000 for the 2020/21 tax year. This is only applicable when the main residence is gifted to a direct descendent of the deceased (either their child or grandchild – nieces/nephews, cousins or friends do not count). This, again, shows the importance of writing up a well thought up Will to ensure that this allowance is used effectively.
Putting Assets into a Trust
If you decide to transfer your assets into a trust, the assets transferred would not form as part of your estate on death. Although assets transferred may be subject to capital gains tax. Non-cash assets transferred into a trust will be subject to capital gains tax, because the transferor is effectively selling his/her assets to the trust. The assets can potentially be exempt from inheritance tax if the transferor does not pass away within 7 years from the transfer. Income generated from a trust will also be subjected to income tax. The following are several of the most popular trusts used by inheritance planners to minimise tax liabilities.
There are gifts that are exempt from inheritance tax if they meet certain conditions under Section 21 of the Inheritance Tax Act 1984. Even if such gifts are made within 7 years of the death of the deceased, it would not be subjected to inheritance tax. The exemption can only be applied if three of the following conditions are met:
- It was considered as part of the normal expenditure of the transferor.
- It was considered out-of-income.
- The transfer of gift(s) left the transferor enough income to sustain his/her normal standard of living.
“Normal expenditure” is anything that includes regular or usual expenses, in relation to the transferor as opposed to other individuals.
“Out-of-income” is anything that came out of regular income. HMRC generally considers anything kept within two years as income and anything after two years as capital.
Such gifts that are out-of-income should not affect the transferor’s “normal standard of living”, whereby the transferor would not need to use his/her capital to meet normal living expenses.
Gift away assets that do not attract Capital Gains Tax
Another method to reduce inheritance tax is to gift away any assets that are classified as negative equity, whereby the purchase price is higher than the current market value. This will ensure that the transferor would not be liable to any capital gains tax, nor will there be any inheritance tax payable for the transferor upon death if it was gifted longer than 7 years prior to the transferor’s death.
Giveaway to Registered Charities
All assets given to charities are free from inheritance tax. As an extra incentive, if one decides to give at least 10% of their estate to charity, the rest of their estate will be taxed at 36% as opposed to 40%.
Spend the Money
The easiest out of all tax avoidance methods would be to simply spend the money before you pass away. It is counter-intuitive to save all the money, and have it taxed at 40% upon death. It is much more logical to spend it whilst you still can.
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