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How to Avoid Inheritance Tax on Property

27 April 2021
Jan Friend
Estate Planning / IHT

Paying tax is an unfortunate fact of life, but it certainly seems like an unfair one when it comes to Inheritance Tax. After all, we’ve spent our lives paying taxes and have probably already paid them on the value of our estate, so why pay again? Friend & Grant are committed to helping you save money and avoid Inheritance Tax on property so that you can leave your loved ones with as much inheritance as possible!

What Is Inheritance Tax?

In a nutshell, Inheritance Tax (IHT) is the tax paid on the estate of someone who has died. This includes all of your money, property and possessions. IHT is charged at 40% of whatever is over your IHT threshold.

Not everyone pays IHT, though. The nil rate band (NRB) is £325,000. So, if the total value of your estate is below this, you won’t pay anything. Additionally, if you leave everything above the NRB threshold to a spouse/civil partner or an exempt beneficiary, such as a charity, you will not pay IHT.

What Is the Nil Rate Band and How Does It Work?

If the entire value of your estate amounts to more than the NRB threshold of £325,000, then anything over this may be liable for 40% tax!

For example, if your estate is worth £700,000 and the threshold is £325,000, you will be charged 40% on the £375,000 that your estate value goes over the threshold. So your estate will be taxed £150,000.

That is £150,000 that will go to the taxman rather than your family, friends or chosen charity.

How Much Is Inheritance Tax in the UK?

The nil rate band is currently fixed at £325,000 and has been frozen at that amount until at least the 2025/26 tax year. When a spouse or civil partner passes away, their unused NRB can be passed on to the surviving partner, potentially doubling the NRB to £650,000. This is known as the transferable nil rate band (TNRB).

Recently, the residence nil rate band (RNRB) — also known as the home allowance — was brought in. The RNRB is additional to the NRB and TNRB. To be eligible for the RNRB, you must leave your home to your children or grandchildren directly. With the NRB and RNRB you could have a combined allowance of up to £500,000.

Because of the ability to transfer your allowance to the living spouse/partner, the total potential IHT allowance would be £1,000,000.

How to Avoid Inheritance Tax on Property

The most effective way of avoiding inheritance tax on property is leaving your house to your surviving spouse in the first instance. Homeowners do not pay IHT on property left to a surviving spouse. This way, if you’d like to eventually leave it to children, step-children or grandchildren after your surviving spouse passes away, you have a combined RNRB tax allowance of £350,000. This is explained in more detail below.

Residence Nil Rate Band

With the RNRB mentioned earlier, homeowners are entitled to an extra £175,000 tax allowance if their home is left to their direct family. Like the NRB and TNRB, the RNRB is transferable to a spouse if you pass away, making it a £350,000 allowance. So, as a homeowner, you can rest assured that your home can be left within the family without the worry of IHT causing unnecessary expense.

There are restrictions on claiming the RNRB, such as if your estate exceeds £2 million or the property is left on trusts, so it is worthwhile planning carefully to secure the valuable relief wherever possible.

Other Ways to Save on Inheritance Tax

The key to saving on IHT is keeping the numbers just right, ensuring that you are within or as close as possible to your NRB, RNRB and TNRB. Passing property down to direct family is one way. Here are a few other ways you can do this:

  • Gift a portion of your money to charity. This is a popular way of keeping below the threshold. In addition, if you gift 10% of your estate to charity, you will be charged a reduced IHT rate on the rest!
  • Take out life insurance that will cover your Inheritance Tax. This is an indirect but effective way of covering the tax bill when your life insurance pays out. This will mean that you can leave your estate to your loved ones without concern over IHT bills. Always ensure that your life insurance policies are written in trust. If not, they will be classed as part of your estate value and taxed at 40%.
  • Pension investments. Money in a pension is generally IHT-free. They are also relatively easy to pass on to beneficiaries after your death. This can be complicated as there may be taxes to be paid when the beneficiary wants access to the funds, so it is important to ask for advice before doing so.
  • Gifting excess income. To prevent money from building up in your bank account as you get older and spend less, give monthly gifts out of income — which are IHT-free — to your beneficiaries. You are also entitled to gift £3,000 per year and a small gift relief of £250 per person. Out of your capital.

It is, of course, important to get advice when considering estate planning. Your accountant can help you to distribute your wealth to avoid Inheritance Tax wherever possible. And remember, you don’t always have to give away assets to avoid or save on Inheritance Tax! Contact us today to find out how we can help.

The content in this blog is correct as at 27/04/2021. See terms and conditions.

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