Why Should You Be Interested In Inheritance Tax Planning?

By Author: Helen
Total Articles: 33
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Life has a time limit, and this is a reminder to enjoy each day as it is the last. However, even though you will not be around to see it through, after your passing, the estate in which you invested your hard-earned money, time, and ambitions will be transferred to your descendants, who, according to UK laws, will be required to pay a hefty sum in IHT. Over the years, have you gathered possessions that have appreciated in value, and now, your total assets surpass the minimum tax threshold imposed by IHT regulations?

In that case, like any responsible individual, you should focus on inheritance tax planning and try to reduce as much as possible the financial conundrums of your children, spouse, or estate beneficiary. Inheritance tax in the UK is currently limited to a threshold of £325,000 per person, which can be further increased if you are a direct descendant of the estate’s owner. With the help of a residence nil-rate band worth £175,000, the IHT threshold applicable to your direct descendants could rise to a value above £500,000, which, for most individuals, is a reasonable sum.

That said, the problem ...
... comes if you are the owner of a property situated in a large city like Manchester or London. In England’s capital, for example, the median asking price for market-listed properties now stands at £686,000, which means that your descendants will be taxed 40% for the difference between the value of your estate and the IHT celling. For the sake of simplicity, let’s say your estate is only comprised of a property with a real-estate value in line with the market average. In such a scenario, your children will need to pay 40% tax out of £186,000. So, their IHT obligation will stand at £74,400.

Why Is an Inheritance Tax Strategy So Important?

In short, nobody wants their descendants to pay a hefty sum on taxes that can technically be avoided. Do you want to leave your estate to your children? If so, a strategy to consider is to combine your NRB and RNRB with your spouses to a maximum tax-free threshold of £1 million. This is perhaps the most straightforward method to minimise IHT obligations. However, this is not the only technique you can use.

Let’s say that your estate’s future beneficiaries are not your direct descendants. In that case, you can give away £3,000 worth of your estate tax-free per year, without your present incurring income taxes. Likewise, assets gifted seven years before your death do not count towards IHT ( https://www.thegazette.co.uk/all-notices/content/104191 ) . Are you in shape and do you still have twenty or so years left in you? Then, that’s your cue to start gifting. One other option to keep in mind is charitable donations. In the UK, if you donate 10% or more of your estate to a charitable organisation, then the IHT of your descendants will be reduced from 40% to 36%.

If your estate is worth £1.5 million, and you make use of both your and your spouse’s NRB and RNRB, the total taxable value for your estate will stand at £500,000, which means your beneficiary will need to pay £200,000 in taxes. But now, let’s assume you donate 10% of your estate to a charity. In such a scenario, your descendant’s IHT obligation will be only £162,000. But, the total estate left to them will be lower, at £1,28 million. Do you want to donate £50k, which in reality will have a net cost of only £12,000? If so, charitable donations could be a choice to consider, even if they will not save money per se.

What About APR and Woodland Relief?

Let’s say your parents left you a farm somewhere in Yorkshire or Lancaster, and the total value of the estate is around £2,000,000. Even in the best of conditions (by leveraging your parent’s NRB and RNRB), your IHT obligations will stand at around £800,000, which is an insane amount of money in our country’s current economy. But there might be a way around it. If the farm was used for at least two years in agriculture, or seven if it was rented out, then you might be eligible for Agricultural Property Relief, which can cover between 50% and 100% of the estate’s inheritance tax obligation ( https://www.gov.uk/guidance/agricultural-relief-on-inheritance-tax ) .

For the APR to apply at 100%, the property must have been actively used for farming purposes. Plus, if the property was rented out and used for agricultural means, then the descendants of the estate owner must have the right to take back possession of the property within 12 months after their passing (this should be mentioned in the lease agreement). Not least, in order to qualify for APR relief, the property must still be used for farming purposes, even after it comes into the possession of the owner’s descendants. Inheritance tax in the UK can be unforgiving in some scenarios. However, it can be circumvented as long as you’re willing to listen to the advice of experts in strategic inheritance tax planning ( https://nope.tax/ ) .

Is This All?

Not exactly. One other method you can use is life insurance. The idea behind it is quite simple. You, as the estate’s owner, take out a life insurance policy that covers the entire value of your holdings. However, the key behind this action is for the policy to be managed by a separate trust. When you die, the payout of the life insurance policy will cover your descendant’s tax obligations and ensure they have enough funds to cover miscellaneous expenses with the property.

As the payout is external and the life insurance policy is technically no longer part of the estate, the sum will not be subjected to IHT and, also, will be available instantly, as trusts are not subjected to the same probate process as in normal inheritance transitions. The best part is that the sum obtained from the life insurance payout can be utilised for multiple purposes. Sure, a good idea would be to use that sum to pay out IHT. But, let’s say your descendants already benefit from you and your wife’s NRB and RNRB, so their tax-free allowance stands at £1,000,000. Is the estate appraised for less than that? In that case, the money from the payout can be used for anything, as it will not count toward the IHT.