What is Inheritance tax?
Inheritance tax is a tax paid on the deceased’s estate, however it is only payable where the estate is valued at less than the Inheritance tax threshold, which is currently £325,000 (correct as of May 2015). Many estates will not be subject to inheritance tax but, with the increase in property values over the last 20 years, many more estates are now subject to the tax.
Inheritance tax Threshold
This threshold means that you are allowed to leave up to £325,000 before inheritance tax is payable. Should you leave an estate valued at more than that, the excess is taxed at 40%, (36% if at least 10% is left to a charity). This would mean that if you were to leave an estate of £410,000, tax at 40% would apply to £85,000 (the amount over the threshold). This would amount to a total of £34,000 in tax.
Transferring the nil rate band
Unused amounts of inheritance tax threshold can be transferred to a spouse or civil partner. Supposing you leave £150,000 to your children, this would mean that your estate is £175,000 below the threshold. This difference can be added to your spouse’s or civil partner’s allowance. Therefore, when they die, their allowance will be £500,000 (the standard threshold plus the £325,000 plus your unused threshold £175,000). The HMRC calls this process ‘transferring the nil rate band’. The executors can arrange this by contacting HMRC.
These transfer rules are backdated indefinitely so the nil rate band can be transferred even if someone died some years ago. If the death occurred when the threshold was a lower figure, the transfer value is calculated by working out the percentage that was not used. For example, supposing that someone died when the threshold was £220,000. If they left £110,000 to their children that means 50% of their allowance was unused. This means that the spouse or civil partner can add 50% of the current allowance. Therefore in addition to the current £325,000 they can add £162,500, making a total of £487,500 before tax is payable.
Exemptions and reliefs from inheritance tax
Even though your estate may be over the threshold, there are some things that are exempt from inheritance tax. These include:
- Anything you leave (or gift during your lifetime) to your spouse or civil partner providing their permanent home is in the UK.
- Small gift exemption allows you to make gifts of up to £250 tax free to as many people as you want.
- Anything you gift to a qualifying charity during your lifetime or in your will.
- If you live seven years after making a gift to someone, this will become exempt from inheritance tax.
- You can gift up to £3,000 each year. This is called an annual exemption. Unused allowance can be used from the previous year once the current year’s allowance is used.
Please talk to your financial adviser for further information on inheritance tax.