Government plans to raise Inheritance Tax allowances or the ‘nil rate band’ to £1m have been cancelled this week.
The Conservative Party had included as one of its flagship policies an undertaking to raise Inheritance Tax allowances to £1m per person, or £2m if transferred between couples.
As a result of the cancellation, Inheritance Tax allowances will now remain at present levels of £325,000 for an individual, or £650,000 for a couple, for the foreseeable future.
Inheritance Tax is levied at 40% on portions of your wealth or ‘estate’ above your Inheritance Tax allowance.
Your estate consists of the value of your home plus any other properties you may own, cars, valuables, savings, investments, and any life insurance policies you may have that are not written in trust. This total is then reduced by the value of your outstanding mortgage, loans and other debts. If the resulting total exceeds your personal allowances, you then deduct your personal allowance, and the resulting sum is subject to Inheritance Tax.
A simple scenario can show where Inheritance Tax can apply. A widow has a home valued at £300,000, a life insurance policy, not written in trust, for £200,000, and other investments and savings totalling £100,000. This gives her assets of total value £600,000.
Her debts include £10,000 outstanding on her mortgage and £5,000 in assorted borrowings. Her debts and liabilities are therefore £15,000.
The value of her estate is therefore her assets (£600,000) less liabilities (£15,000), equalling £585,000.
Subtract from that her personal Inheritance Tax allowance of £325,000, giving a remainder of £260,000. This is the sum liable for Inheritance Tax at 40%, leaving her children with a demand from the taxman for an Inheritance Tax bill of £104,000.
With some financial planning and good independent financial advice, however, this Inheritance Tax liability could have been reduced, or eliminated altogether.
As a first step, a financial planner might, for example, have recommended writing the widow’s life insurance cover in trust. This is a simple means of removing her life cover from her estate, thus reducing the value of her estate by £200,000, and leaving her with just £60,000 liable for Inheritance Tax. This step alone would have reduced the value of the Inheritance Tax bill to just £12,000. However, further steps are also possible which would, with the help of a good financial planner, have enabled her to further reduce her exposure to Inheritance Tax.
