Inheritance Tax is one of the most lucrative taxes for the Revenue, as it applies at 40% to all liable assets. However, it is also one of the most avoidable of taxes, and with good financial advice can often be reduced, or eliminated altogether.
Here are some of the main points a financial adviser may suggest, when giving Inheritance Tax advice to minimise your potential IHT liability.
Inheritance Tax does not apply to assets willed between husband and wife, but a liability can arise on assets being passed to your children.
Before a liability arises, you have an Inheritance Tax allowance of £325,000 (or a joint allowance of £650,000 for a couple). However, this can quickly disappear, when you consider the various elements that are subject to the tax. Taken together, these elements make up what is known as your ‘estate’.
Your estate consists of your assets, less your debts and liabilities. On the assets side are the value of your home, and other properties such as a holiday home, payouts from insurances, savings, and other possessions, including cars. Their total value will be reduced by your outstanding debts. The resulting figure is your net wealth – your ‘estate’.
The first step in planning to avoid Inheritance Tax is, therefore, to minimise the value of your estate.
Writing life insurance in trust
One efficient way of doing this is to write your life insurance policies ‘in trust’. This simple procedure removes life insurance policies from your estate, so that, for example, a £150,000 payout from your life insurance policy does not deplete your IHT allowance, and inflate the value of your estate to the point where an IHT liability can arise. Life policies ‘in trust’ are also paid immediately and directly to the beneficiaries, ensuring that your family receives the cash quickly and efficiently.
Using your will
Good inheritance planning also involves ensuring you have an up-to-date will in place. This gives you a high degree of control over the administration of your estate, and the structures it puts in place can significantly reduce the risk of an IHT liability. Without a will, you die ‘intestate’, which effectively leaves the Government to manage your estate through the rules of intestacy.
This could mean that not all of your wealth would pass to your spouse. In fact, only the first £125,000 of your wealth passes automatically to your spouse, and if you have no children, parts of your remaining wealth could be distributed to other relatives, if you have no will in place.
Passing on the family home
Another strategy for minimising your IHT liability is to plan ahead by ‘gifting’ both property and cash to your children, while you are still alive.
However, a gifted property is subject to the ’7-year rule’ – you must survive for 7 years after the gifting, for the gift to be freed from tax. If you pass away within 7 years of making the gift, then an IHT liability may still arise.
There is one particular point to note, in relation to gifting your children the family home.
If you continue to live in the family home, once it has been transferred into your children’s names, the taxman judges that you continue to benefit from it. As such, it becomes a ‘gift with reservation’ that is liable to Inheritance Tax.
This can be avoided by paying your children a rent at current market values, thus creating an ‘arm’s length’ arrangement by technically becoming a tenant.
Gifting of cash gifts is also possible, free of Inheritance Tax. You can gift up to £3,000 per year to your children, tax-free, for any purpose, as well as once-off sums of £5,000 to your children, and £2,500 to your grandchildren, as wedding gifts.
