Expert tips on reducing tax
He may be an unlikely culprit but Napoleon Bonaparte is partly to blame for the Inheritance Tax bills so many estates in the UK are saddled with each year. The first type of “death duty” dates all the way back to 1694, then later in 1796 a further tax on estates was used to help fund the war against Napoleon.
This brief history lesson could make Inheritance Tax seem like a quaint relic from a long-forgotten age but more than 200 years later it’s still a great earner for HM Treasury. The government looks set to collect around £30 billion from estates over the next 6 years alone.
New IHT rules
Moving on to modern times, there are now less than 12 months until new IHT rules are introduced. From deaths on or after 6 April 2017, a new main residence nil rate band will also be available in addition to the standard nil rate band (£325,000).
The main residence nil rate band will be the net value of the home (e.g. after any outstanding mortgage or liabilities) to a maximum of:
• £100,000 for 2017/18
• £125,000 for 2018/19
• £150,000 for 2019/20
• £175,000 for 2020/21
Therefore from April 2020, there is the potential for a married couple or civil partnership to leave £1 million of their estate IHT-free to their direct descendants.
The new main residence threshold only applies to one main residence property only and not second homes and only if it is left to a direct descendant. The value of the main residence threshold tapers away where estates are worth £2 million or more.
Protect your loved ones from tax
Estate planning can be a complicated process, especially as rules and legislation seem to change every year. But with the right forward planning it is possible to significantly reduce or even eliminate the IHT liability. Currently, Inheritance Tax is paid at 40% if a person’s estate (their property, money and possessions) is worth more than £325,000 when they die.
Many IHT strategies are easy enough to implement yourself, and include:
Using your gift allowance
Each tax year we can give away up to £3,000 Inheritance Tax free. But there are lesser-known gift allowances that you can use too. For example up to £5,000 when a child gets married (£2,500 for each grandchild), or the unlimited regular gifts you can make from surplus income – using these allowances can reduce tax liabilities.
The tax benefits of ISAs
The tax benefits of ISAs were recently overhauled to make them even more appealing. For example, if you’re married or in a civil partnership you can effectively pass the income and capital gains tax benefits of your ISA savings to your surviving spouse on death. It is also possible to create an IHT-free ISA - invest in certain AIM shares within the ISA and these qualify for an IHT exemption after two years, though please remember that AIM shares are more volatile than their main-market counterparts, and investors could get back less than they invest.
Making use of pension rules
New pension rules have changed the taxes applied to pension pots at death. In the past up to 82% tax was payable. Now pension funds are normally tax free on death before age 75. For deaths after age 75, beneficiaries are charged their rate of income tax on withdrawals e.g. 20% for basic rate taxpayers. That’s half the standard rate of IHT and, if the beneficiary is zero-rated, they could pay no tax at all.
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