Could you unexpectedly cross the Inheritance Tax threshold?

Inheritance Tax

For some people, the Inheritance Tax (IHT) thresholds can seem a long way off. But when they pass away, their estate faces a significant tax bill that hadn’t been expected. It can be easier than you think to inadvertently cross IHT thresholds.

When is IHT paid?

Inheritance Tax is a tax on your estate after you’ve passed away, reducing how much you leave behind for loved ones. The standard rate of IHT is 40%. However, the majority of estates aren’t liable for IHT because they fall below thresholds.

  • Nil-rate band: If your entire estate falls below the nil-rate band, no IHT is due. The current nil-rate band is £325,000
  • Residence nil-rate band: If you’re passing your main home on to children or grandchildren, the residence nil-rate band could supplement the threshold above. For 2019/20 the residence nil-rate band is £150,000, rising to £175,000 in 2020/21.

You can pass unused allowance to a spouse or civil partner. In effect, that means it’s possible to pass on an estate worth up to £1 million to loved ones as a couple from 2020/21.

During the 2018/19 tax year, IHT receipts collected by HM Revenue & Customs (HMRC) were up 3.1% on the previous year. In total, around £5.4 billion was collected following a £160 million increase.

Crossing the IHT threshold

When you look at the size your estate has to be before IHT is due, you may think it’s something you don’t have to worry about. But crossing thresholds without realising is more common than you would think.

Many of us will know how much is in a certain savings account if asked. But would you know the value of your entire estate? Once you start factoring in all your assets, including investments, property and material goods the total value is often higher than you first anticipated. Pots of money are easy to slip your mind, or you may be undervaluing certain assets. It’s a miscalculation that could mean your estate is liable for IHT that could have been avoided.

Property is often one asset that’s undervalued when assessing if thresholds are crossed. The rapid rise in property value over the last 20 years could mean your home is worth significantly more than you think. If you haven’t valued your house recently or considered how it may change over the years, it could mean you cross the threshold.

Understanding the value of your assets, as a result, is important.

Why does it matter that you know if your estate could be liable for Inheritance Tax? Often, it’s possible to reduce the amount owed. However, you need to take a proactive approach to do so.

4 ways you could reduce IHT

  1. Make gifts to loved ones now: Gifting some of your wealth now can reduce the overall value of your estate and bring it under thresholds. You can give away as much as you’d like, but if you die within seven years of gifts being received these may be considered part of your estate for IHT purposes. There are gifts that are immediately outside of your estate. This includes gifts up to the value of £3,000 per tax year and those that come from your income, among others. To discuss how gifting could help, please get in touch.
  2. Leave a charitable legacy: The standard rate of IHT is 40%, but it is possible to reduce this to 36%. To use this lower rate, you must leave at least 10% of your entire estate to charities. Depending on the amount of IHT due, this can mean your beneficiaries inherit more. Plus, you’ll be doing some good with your money and have a chance to support causes that are close to your heart.
  3. Use a trust: Assets placed within a trust are not part of your estate and, therefore, avoid IHT. There are even ways to place assets in trust and still take an income from them. Trusts offer many benefits, including providing for beneficiaries that are under 18. However, they can be complex, and you need to carefully consider the type of trust you use and the assets placed in it. You should seek advice before proceeding.
  4. Take out a life insurance policy: If after taking steps to reduce IHT there’s still some to be paid, a life insurance policy can provide a solution. It won’t reduce the amount owed but the money it pays out can be used to pay the IHT owed, preserving your estate. You’ll need to pay premiums and the policy must be written in trust, otherwise, the payout will increase the value of your estate.

If you’re worried about the impact Inheritance Tax could have on your legacy, please get in touch. We’ll help you understand if your legacy could be affected by IHT and the steps you can take to mitigate it if necessary.

Please note: The Financial Conduct Authority does not regulate tax and estate planning. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.