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Frequently asked questions about estate planning and Inheritance Tax
Frequently asked questions about estate planning and Inheritance Tax
We have put together a list of questions our experts are most frequently asked about estate planning and Inheritance Tax. Please click on each question below to jump to the answer or alternatively, scroll down the page.
Is it best to give a financial gift during my lifetime or when I die?
Is it best to leave a gift to charity in my Will on my death or when I’m still alive?
Can gifts made out of my surplus income be a one-off or do they have to be regular?
I’m planning on making regular lifetime gifts. How do I document them?
What if I die within seven years of making a gift?
Are there any gifts which are immediately free of Inheritance Tax?
What is a potentially exempt transfer?
What is the difference between the nil rate band and the residence nil rate band?
What happens to any unused nil rate band or residence nil rate band?
Can I transfer my nil rate band if I am not married to my partner?
How is Capital Gains Tax calculated and applied?
What happens if I sell a property that I have inherited?
Is Inheritance Tax payable on a pension?
Do I have to nominate beneficiaries for my pension?
How can I use an insurance policy to settle an Inheritance Tax bill?
Why do I need to make sure my life insurance policy is written into trust?
How do joint tenancy and tenancy in common work for Inheritance Tax purposes?
Can I put a property into trust?
What is a gift with reservation?
Do I need a Deed of Variation?
How do trusts work alongside Inheritance Tax planning?
Is it best to give a financial gift during my lifetime or when I die?
Whether or not it’s best to make financial gifts during your lifetime often depends on your personal circumstances. Broadly speaking, there are a number of allowances that you can use during your lifetime to help pass on the money tax-efficiently which will disappear on your death. We discuss each of these in detail in our article ‘What are the pros and cons of giving money to my adult children now versus leaving an inheritance after I die?’
For many people, the main incentive for giving away their money during their lifetime is providing help at a time when it is needed the most and they get the enjoyment of seeing their money being put to good use.
Is it best to leave a gift to charity in my Will on my death or when I’m still alive?
Charitable gifts made during your lifetime may benefit from Gift Aid, which means that the charity can claim the basic-rate tax you have paid on the money that you gift. Also, you can claim higher-rate Income Tax relief if you are a higher-rate taxpayer. The gift will be immediately exempt from Inheritance Tax and it could reduce the overall value of your estate. This may help to preserve your residence nil rate band of £175,000 from tapering away if your estate is valued at £2 million or more.
If you make the gift on your death, Gift Aid will not be available. But the money gifted to charity is not liable to Inheritance Tax, and if you gift more than 10% of your net estate to charity then your beneficiaries will only pay Inheritance Tax on the remaining taxable estate at 36%, rather than the usual 40% (your net estate is broadly your estate less the nil rate band).
Can gifts made out of my surplus income be a one-off or do they have to be regular?
There is an Inheritance Tax exemption for some financial gifts which are paid out of excess income. Any gifts made out of your surplus income have to be regular in order for them to fall outside of your estate. They need to be regular in terms of the frequency they are paid (for example, annually) and broadly regular in their value.
If financial gifts made out of surplus income are to qualify for this exemption, in addition to being regular, they must not have a negative impact on your own standard of living and have to be taken out of your income and not your capital.
I’m planning on making regular lifetime gifts. How do I document them?
When you die, the executors of your estate will need to submit HMRC’s form ‘Gifts and other transfers of value’ (IHT 403). Although you do not have to submit this form during your lifetime, the easiest way to help your executors complete it is for you to keep a record of all the financial gifts you have made. There is no set way to do this, but our Important Documents booklet has a section where you can easily record this information.
If you are planning on making regular gifts, but haven’t made any payments yet, it is worth setting your intentions out in a letter. This way, if you die after the first gift is made, HMRC may still treat it as an exemption for Inheritance Tax purposes.
There is no requirement from HMRC for you personally to submit details of any gifts you make to other people while you are still living.
What if I die within seven years of making a gift?
If you die within seven years of making a financial gift that is above your annual allowance for gifting, it could become subject to Inheritance Tax on your death if it is above the available nil rate band. If Inheritance Tax is payable, the amount will reduce over the seven years (also known as ‘taper relief’).
Are there any gifts which are immediately free of Inheritance Tax?
Yes, there are a number of gifts which are immediately Inheritance Tax-free, including gifts made to:
- Your husband, wife or civil partner (assuming that they intend to permanently live in the UK)
- Qualifying charities
- National institutions such as universities or museums
- Some UK political parties.
You can also make the following gifts and Inheritance Tax will not be chargeable on them:
- Gifts up to the value of £3,000 each year (known as the ‘annual exemption’)
- As many small gifts of up to £250 as you like, but no more than £250 per recipient
- Wedding or civil ceremony gifts, made on or shortly before the date of the ceremony
- Regular gifts taken from excess income that don’t negatively impact upon your standard of living.
What is a potentially exempt transfer?
Any lifetime gift to another person which is above your annual gifting exemption and is not immediately Inheritance Tax-free is considered to be a potentially exempt transfer. This is because it has the potential to become exempt for Inheritance Tax purposes – if you survive for seven years after making the gift, it will not be counted as part of your estate on your death.
What is the difference between the nil rate band and the residence nil rate band?
The nil rate band, currently set at £325,000, is the maximum value of assets you can pass on to someone other than your spouse or civil partner when you die, without creating an Inheritance Tax bill. Everyone has a nil rate band, but the nil rate band available to use on death may be reduced if you made gifts in the seven years prior to your death, or may be increased if you are able to transfer an unused nil rate band from a deceased spouse or civil partner.
The residence nil rate band is an additional allowance of £175,000, which is applied against the value of your family home. Unlike the nil rate band, it is not applicable to everyone as it can only be used when passing down your home to children, grandchildren, step-children or fostered or adopted children, but notably not nieces, nephews, or any other beneficiary.
What happens to any unused nil rate band or residence nil rate band?
Any unused nil rate band or residence nil rate band can be claimed by a surviving husband, wife or civil partner’s estate on their subsequent death. If you have no surviving spouse at the time of your death, it is lost.
Can I transfer my nil rate band if I am not married to my partner?
No. The nil rate band can only be transferred from a deceased husband, wife or civil partner who you are married to or in a civil partnership with at the time of your death.
How is Capital Gains Tax calculated and applied?
Capital Gains Tax is payable when an asset is sold or given away and it has increased (or ‘gained’) in value since you first acquired it.
An annual exemption is available which will reduce the gain that is liable to tax. Any remaining gain is added to your income to see whether it falls within the basic or higher-rate tax bands. Gains within the basic-rate band are liable to tax at 10% (or 18% for residential property) whilst gains in the higher-rate band are liable to tax at 20% (or 28% for residential property).
If you make a loss, it can be carried forward to reduce any gains you make in later years.
There are some exemptions including:
- Gifts between husbands, wives and civil partners
- Gains made on your home
- Gains on your death.
What happens if I sell a property that I have inherited?
If the property is your home, private residence relief should be available, which means that any capital gains are exempt if you sell it.
But if the property is not your home, there will be Capital Gains Tax payable on the gain made since the date of death of the person you inherited it from, less the annual Capital Gains Tax exemption for the year of disposal (i.e. the year it is sold). The taxable gain is chargeable at 18% or 28% depending on whether the gain, when added to your income, falls within the basic or higher-rate Income Tax bands.
Is Inheritance Tax payable on a pension?
Inheritance Tax is not payable on the majority of pensions, although there are some exceptions. This makes pensions an incredibly useful estate planning tool.
Do I have to nominate beneficiaries for my pension?
If you want to make sure that your money goes to the right person, it’s really important to nominate a beneficiary for your pension and keep this nomination up to date so that it reflects your current wishes.
As the payment of your pension benefits may not automatically follow the terms of your Will, your pension trustees will be guided by your nomination. Without this, they will have to decide who the money goes to and this may not be the person or people that you had in mind.
How can I use an insurance policy to settle an Inheritance Tax bill?
Most people do not want to leave their beneficiaries with a substantial Inheritance Tax bill to settle on their death. If you know how much the liability is likely to be, you can take out a life insurance plan for this amount (and make sure it is written into trust), which will become payable on your death. Your beneficiaries can then use the proceeds to settle the bill and they will then receive their inheritance, as probate will not be granted until the payment is received.
Why do I need to make sure my life insurance policy is written into trust?
Unless a life insurance plan is written into trust, the death benefits will form a part of your estate and become liable to Inheritance Tax. Therefore, it’s extremely important that you make sure that your plan is written into to trust with at least two trustees (other than yourself).
How do joint tenancy and tenancy in common work for Inheritance Tax purposes?
A co-owned property is either held jointly or as tenants in common. If the property is jointly held, it automatically passes to the surviving co-owner on your death and won’t follow the terms of your Will. Joint tenancy is a common way for married couples to hold their property. If the co-owner isn’t your husband, wife or civil partner, Inheritance Tax is potentially payable on your half of the property’s value when you die.
If the property is held as tenants in common, on death, the property will not pass automatically to the other owner. Instead, it passes under the terms of your Will. If your Will states that your half of the property should be passed to your husband, wife or civil partner, then no Inheritance Tax will be payable. Alternatively, if your share of the property is to be passed to anyone else, then an Inheritance Tax charge could arise.
It is important to hold the property as tenants in common if you wish to pass your share of it to someone other than the co-owner or to a trust.
Can I put a property into trust?
It is possible to put a property into trust, but there are Inheritance Tax, Capital Gains Tax and potential stamp duty implications which must be considered, as well as the cost and administration of setting up a trust. By placing a property into trust, there is a deemed disposal for Capital Gains Tax purposes and tax is potentially payable, although it may be possible to defer this using holdover relief (depending on the terms of the trust). The property would also be deemed as a gift for Inheritance Tax purposes and if you continue to live in or benefit from the property, this could be a gift with reservation.
What is a gift with reservation?
If you make any sort of gift but in some way you continue to benefit from it, this could be classed a gift with reservation. Gifts with reservation are still liable to Inheritance Tax on your death. The most common type of gift with reservation is when you give away your residential property, but you continue to live in it without paying rent.
Do I need a Deed of Variation?
A Deed of Variation is a very useful method of gifting assets that have been inherited from someone who died within the last two years. If the originally intended beneficiary does not need the money and would like to give it to someone else, they can do so tax-efficiently by using this Deed.
In effect, a Deed of Variation changes a Will (or ‘varies’ it) and it is as though the deceased person made the gift themselves to the new beneficiary on their death. The inheritance then immediately leaves the original beneficiary’s estate. The original beneficiary could even vary the Will and gift so it goes into a discretionary trust, which they could benefit from and still reduce their own Inheritance Tax liability.
How do trusts work alongside Inheritance Tax planning?
Many people are reluctant to give outright financial gifts, either because they are worried about the money being lost due to a difficult marriage or failing business, or perhaps they want some control over when the beneficiary receives the money, and how much they receive at a time.
A trust allows you to make a gift now, which starts the seven year Inheritance Tax clock ticking, but if you act as a trustee, you are in control of who benefits from the money, when they benefit from it and how much they receive. Depending on the type of trust, it can also protect the assets if a beneficiary gets divorced or becomes bankrupt.
There are also some more specialist trusts, such as a discounted gift trust, that allow the donor access to some of the money in the trust, but they still reduce their Inheritance Tax liability.
Talk to Tilney
If you have any further questions about estate and Inheritance Tax planning or if you would like to know more about how our experts could help you, book an initial appointment online or call us on 020 7189 2400.
Issued by Tilney Financial Planning Limited. Authorised and regulated by the Financial Conduct Authority.
Prevailing tax rates and reliefs depend on your individual circumstances and are subject to change. Advice in relation to trusts and inheritance tax planning is not regulated by the Financial Conduct Authority, however, the products used in relation to trusts and to mitigate tax may be regulated.
Disclaimer
This article was previously published on Tilney prior to the launch of Evelyn Partners.
