Common questions about Inheritance Tax
Understanding Inheritance Tax
Dealing with a death of a parent is not only emotional, it can also be exhausting and the last thing anyone wants to think about is Inheritance Tax.
When a friend’s mum passed away a few months back, she described how the process of probate, getting the estate valued and ensuring the correct tax was paid, meant she had little time to actually mourn.
It’s an issue which affects people across the UK – even more so since the Inheritance Tax threshold was frozen a few years back. So much time is spent on sorting out a person’s estate when they die that it’s often months before mourning can truly begin.
In this post we’ll answer some of the basic questions around Inheritance Tax, so you can look to put things in place now to ensure your beneficiaries are looked out for when you go.
When is IHT paid?
Inheritance Tax (IHT) is usually paid within six months of a person’s death. It’s a one-off payment that totals 40% of a deceased person’s estate (an estate includes all their assets, such as investments, cars and additional property) if that estate is worth more than £325,000.
What is the IHT threshold?
The current threshold for IHT is £325,000 for an individual and £650,000 for married couples or civil partners. If one partner is widowed several months before the other, the threshold can be up to £650,000 but this would depend on how much of the allowance was used on the first death.
What are the IHT rates for 2020/2021?
In 2017 a new allowance was introduced to enable people to pass more of their estate on to their direct descendants. Called the residential nil-rate band (RNRB), it entitles you to more tax free allowance (currently £175,000 for 2020/2021) to be used against your main residence but only if you decide to pass it on to your children, step-children or grandchildren when you die.
Any other properties you own which form part of your estate are subject to Inheritance Tax. It’s also worth noting that the RNRB tapers away for estates worth over £2m. For every £2 over and above £2m, £1 of the allowance is removed.
How to reduce Inheritance Tax
There are certain things you can do to reduce the value of your estate for IHT purposes. For example, an unlimited number of gifts up to a value of £250 can be made in each tax year. You can also give a tax-free gift of £5,000 to a child (or £2,500 to a grandchild) if they are getting married or entering a Civil Partnership. Larger gifts would only become fully exempt if they’re made at least seven years before you die.
A few other ways to plan for Inheritance Tax include:
- Putting assets into a trust for your beneficiaries
- Paying into a pension rather than into savings accounts
- Leaving a donation to charity
Can IHT be avoided?
It’s probably not a good idea to try and avoid paying Inheritance Tax unless you know you can do so legally. Of course, if you gift so much in your lifetime that the value of your estate falls beneath £325,000, you have nothing to worry about. But there are other less penal ways to avoid IHT!
For example, an equity release scheme enables you to borrow money against the value of your home to pass onto heirs. This kind of gift means you must survive for at least seven years if any potential IHT on it is to be avoided.
We’d strongly recommend consulting a financial advisor before taking this route, as it can often prove more expensive to your beneficiaries than if you had simply done nothing and let HMRC take their cut instead!
Can a trust help with Inheritance Tax?
If it’s set up in the right way, using a trust can be an effective way to help reduce Inheritance Tax. Putting assets in trust means they no longer belong to you and therefore, when you pass, their value won’t be included in the IHT calculation of your estate.
There are various types of trust, from the simplest ‘bare trust’ where everything is given to the beneficiary as soon as they are over 18, to a ‘discretionary trust’ where the nominated trustees can decide how the assets are distributed. There’s also a specific type of trust available for those living outside of the UK.
Life insurance policies can also be put under trust so that they don’t count towards your estate’s value for IHT purposes. What’s more, the monies can even be paid out before probate is granted, speeding up release of funds to your beneficiaries.
When setting up a trust, it’s a good idea to speak to a solicitor or tax advisor – otherwise you could get stung with an unexpected tax charge once you have set it up and decide to transfer assets into it.
Can Inheritance Tax be deferred?
Ordinarily Inheritance Tax is due within six months of the end of the month in which the deceased passed away. So if Betty passes away on the 14 May, any IHT owed is due by the end of November.
That said, there are things on which the payment of IHT can be deferred. Family homes tend to form the bulk of many peoples’ estates, so any IHT accrued on property or land can be deferred for up to ten years. If you take this option, the tax must be paid back in equal instalments over the agreed period. Of course, deferred Inheritance Tax will be subject to interest.
If the individual who passed away controlled more than 50% of a company through shares or securities, any IHT due on that can also be paid back in instalments.
Is there a specific Inheritance Tax form or other paperwork that needs to be filled out?
There are three forms you need to fill out if Inheritance Tax is due:
- Probate application (PA1)
- IHT form (IHT400)
- Probate summary (IHT421)
Once these forms have been completed and sent off, you’ll receive notice of how much IHT is due. If you want to pay the tax back in instalments, you must say so on the IHT400 form. Don’t forget to work out the interest that would be due if you choose this option.
Inheritance Tax services
Valuing assets and working out what Inheritance Tax is due is a complicated business. That’s why most people look to professionals for help. THP Chartered Accountants can assist with Tax planning and wealth management, so you can be sure your beneficiaries are going to be well looked after and receive as much from you as possible when you die.
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