The inter-generational game: A guide to Inheritance Tax (“IHT”) – Part one

Over the course of our next three issues we are going to provide a practical guide to Inheritance Tax (“IHT”). This will cover the basics – including what IHT is and the occasions of charge and also explore some of  the planning points that one might consider when looking to reduce its impact.

Of course, as with any tax planning, the correct options will depend almost entirely on the personal and commercial objectives of the individuals in question.

Introduction 

Inheritance tax (IHT) has traditionally been seen as a tax only for the very wealthy. However, with a threshold (referred to as the ‘nil rate band’) of £325,000 and the price of houses even after recent corrections and with the introduction of the ‘main residence nil rate band’ (“MRNRB”), more and more people are finding themselves caught in the inheritance tax trap.

This could lead to many people having to sell long-held family heirlooms or investment assets to meet tax bills that with planning could help avoided.

General

IHT is a capital tax levied on:

• a person’s estate (which may include a person’s interest as a beneficiary in a trust) when they die; and
•  certain gifts made during an individual’s lifetime.

It is generally the case that genuine gifts (ie no strings attached) that are made more than seven years before death will escape tax. Therefore, with sufficient advanced planning, gifts can be made tax-free: the result can be a substantial tax saving.

This is a simple and effective strategy. However, there may be compelling financial and personal reasons why individuals may not want to make outright gifts. In such cases, more thought need to be given to their affairs.

We will give some guidance over the course of the following two editions on some of the main opportunities for minimising the impact of the tax.

At this point, it is important to point out that anyone concerned about their estate should seek specific professional advice appropriate to their own personal circumstances.

Scope of IHT

As stated above, IHT will usually be relevant when a person dies. This does not come as a surprise to most people! However, perhaps less obviously, lifetime gifts may also be treated as chargeable transfers and thus subject to IHT.

That said, most are ignored providing the donor survives for seven years after the gift.

The rate of tax is:

• on death 40%; and
• 20% on lifetime chargeable transfers.

For 2016/17 the first £325,000 is chargeable at 0% and this is known and often referred to as the nil rate band (“NRB”). Only the excess being subject to tax.

The position for Lifetime Gifts

Lifetime gifts fall into one of three categories:

• a transfer to a company or a trust is immediately chargeable –any transfer in excess of the nil rate band being taxed at 20% immediately;
• exempt gifts will be ignored both when they are made and also on the subsequent death of the donor; and
• any other transfers will be potentially exempt transfers (PETs) and IHT is only due if the donor dies within seven years.

The position on death


The main IHT charge is likely to arise on death. IHT is charged on the value of the estate. This includes any interests in trust property where the deceased had a right to income from, or use of, the property. Furthermore:

• PETs made within seven years prior to death become chargeable;
• there may be an additional liability because of chargeable transfers made within the previous seven years.

In the next installment we will cover some of the basic planning opportunities before going on to consider some more advanced options.

If you or your clients have any queries in relation to this article or other matters, then please let us know.