When a loved one passes the last thing you want to worry about is inheritance tax, but it can cost families thousands of pounds if they don’t have the right independent financial advice and support.
Inheritance tax is a complex area of financial planning, but there are several ways to reduce inheritance tax or avoid paying it altogether.
What is inheritance tax?
Inheritance tax is a tax paid by a person who inherits an estate from a person who has died. When a person dies, the executors of the will must add up the value of all assets (property, cash savings, possessions) and deduct any debts. The remaining value is called your estate and this is the amount that is subject to inheritance tax.
Which assets are within your estate?
According to Investopedia: “An estate is everything that is owned by an individual and has value. This includes all land and real estate, possessions, cash, and other assets that the individual owns or has a controlling interest in.”
Which assets are not within your estate?
There are a few assets that are not included in your estate, meaning they are not subject to inheritance tax. This includes most pensions schemes, life insurance, and other trusts. Funeral expenses can also be deducted from a person’s estate for inheritance tax purposes.
Which assets are not within your estate?
There are a few assets that are not included in your estate, meaning they are not subject to inheritance tax. This includes most pensions schemes, life insurance, and other trusts. Funeral expenses can also be deducted from a person’s estate for inheritance tax purposes.
What is the 7-year rule in inheritance tax?
The 7-year rule means that inheritance tax may need to be paid on any gifts that you made less than seven years before your death. For example, if you gifted a family member £100,000 two years before you die, then this gift will be subject to inheritance tax.
The following are classified as gifts:
- Cash
- Property or land
- Stocks and shares
- Possessions e.g. antiques, furniture, or jewellery
Spouses do not have to pay any inheritance on gifts as long as they are in a legal marriage or civil partnership and live in the UK. You can give away £3,000 worth of gifts each tax year without them being added to the value of your estate and being subject to inheritance tax. This is known as your ‘annual exemption’. The government allows you to carry any unused annual exemption forward to the next tax year.
When does inheritance tax have to be paid?
The executors of the will must pay any inheritance tax owed within six months following death and they risk facing a penalty if they do not comply with this deadline.
Residential status and inheritance tax
If your permanent home is in the UK and you are a UK resident, then you must pay inheritance tax on all assets regardless of where they are in the world. Whereas, if your permanent home is abroad, then inheritance tax is only paid on your UK assets, for example, bank accounts or property in the UK. However, the country you live in will likely have their own regulations and taxes that you need to comply with.
What is the UK inheritance tax rate?
In the UK, anything above the £325,000 threshold is subject to an inheritance tax rate of 40%. So, if you inherit £600,000 then you will need to pay inheritance tax on £275,000 which will equate to £110,000. The good news is, there are several ways to reduce the amount of inheritance tax you pay.
How to pay less inheritance tax
Make a will
Writing a will is the easiest way to ensure that your money and estate is dealt with according to your wishes after you die. It allows you to plan how your estate will be distributed and reduce your inheritance tax bill.
If you don’t write a will, then the government will decide what happens to your estate when you diet and it’s unlikely to be as tax-efficient.
Make gifts of estate
Giving away gifts while you are still alive is another simple way to reduce the amount of inheritance tax you pay. You give as many gifts as you like and they are not subject to inheritance tax, as long as they are given 7 years before your death.
Use your allowances
There are several allowances, exemptions and reliefs that can reduce your inheritance tax liability. Make sure you take advantage of these to pay less tax on your estate.
Use business relief
Some types of businesses and investments are eligible for “Business Relief,” which allows some or all of the assets to be transferred tax-free.
Use life insurance
If you have a life insurance policy written in trust, then your family will not pay any inheritance tax on it when you die.
Use trusts
Most assets placed in trust are not included in your estate for inheritance tax purposes. However, the seven-year rule will still apply.
Learn more with Prosperity Wealth
Inheritance tax can be complicated and working with a financial advisor will ensure that you make the right financial decisions and minimise the amount of tax you pay.
Our financial experts have many years of experience providing advice on inheritance tax and we will support you throughout the process. Get in touch if you would like to discuss inheritance tax or any other areas of financial planning.
