David Cameron famously once said he wanted the Inheritance Tax nil rate band for a couple to be £1 million. Despite not being the Prime Minister any longer, he is finally getting his wish and it is about to start happening with effect from the 6th April 2017,with the introduction of the NEW Residential Nil Rate Band (RNRB).
The RNRB was first announced in 2015 and the first increase will be £100,000 and will increase by £25,000 each year until it reaches £175,000 in April 2020. The standard nil rate band is to be frozen until April 2021, after which both bands will increase in line with CPI. This means that in the 2020/21 tax year, each individual will be able to pass on up to £500,000 and a married couple or civil partners, up to £1million. Good news so far.
So, who benefit the changes?
The RNRB is only available on death and as you would expect, it comes with a few conditions.
Qualifying residential interest
The RNRB is only available to those who held a ‘qualifying residential interest’ immediately before death. They must have owned all or part of the property at the time of death and this property must have been their residence but not necessarily their main residence. Therefore, ownership of an investment property is not a qualifying interest. Sorry Buy to let Landlords, you will not be able to take advantage of this with your investment property.
Those who have released equity will be affected, as it is the net value of the home that will be used; any outstanding loan against the property will have to be deducted first.
There are provisions for those that have sold a property. For example, if the deceased owned a property after 7 July 2015 which is subsequently sold or downsized because they are moving into residential care.
The property, or cash if the deceased downsized, needs to be ‘closely inherited’; passing to lineal descendants such as children or grandchildren, including adopted children, step-children, fostered children and those under guardianship. A spouse, surviving spouse or surviving civil partner of a lineal descendant, who has not remarried by the time of the property owner’s death, is also included.
If there are no lineal descendants, then the RNRB will not be available.
Transferring unused allowance
Similar to the standard inheritance tax IHT nil rate band, any unused RNRB can be transferred between spouses and civil partners and must be claimed within two years from the end of the month in which the second death occurs.
Where the first death occurs before April 2017, an unused RNRB of 100% will be deemed to be available when the surviving spouse or civil partner subsequently dies, regardless of whether or not the first to die owned a qualifying residential interest or not.
There is also a ‘tapering of the threshold’ for large estates, which is initially set at £2m, reducing the RNRB by £1 for every £2 over the threshold. So, when the full value of a couple’s estate exceeds £2.7 million, there will be no RNRB at all.
When valuing the estate, it is the net value of the assets held on death, it does not include lifetime gifts previously made by the deceased or make allowance for any reliefs such as business property relief and agricultural property relief that may be available.
To help explain the RNRB, let us consider an example:
Susan dies in May 2017 leaving a husband, Jon, and their son, Tom. The family home was valued at £400,000 and other assets totalled £600,000, all being held jointly between Susan and Jon. Susan leaves everything to Jon.
The spousal exemption applies meaning that ownership of the family home and other assets passes to Jon without any IHT being due and Susan’s standard NRB and RNRB are unused.
Subsequently, in June 2020, Jon dies and leaves her estate to Tom. The house has increased in value to £600,000 and the other assets to £800,000, giving a total estate of £1.4m. Jon’s executors can use his nil rate band of £325,000 and as he owns a qualifying residential interest on death, the RNRB of £175,000. As Susan left everything to Jon, his executors can claim her unused nil rate band and RNRB.
Jon’s estate can therefore benefit from a total of £1m in nil rate bands; 2 x £325,000 and 2 x £175,000.
If the value of the house had been less than £350,000 at the time of Jon’s death, the total amount of RNRB available to Jon would have been limited to the value of the house.
After allowing for the available nil rate bands, the residual value of the estate of £400,000 and inheritance tax of 40% means a tax liability of £160,000.
But what if Susan had utilised her RNRB when she died?
Susan left her share of the family home which was held as tenants in common, to Tom using her RNRB of £100,000 and £100,000 of her standard nil rate band. Jon therefore received the other assets, using the spouse exemption.
On Jon’s death, Susan’s RNRB and part of her standard NRB have been used, but his executors can claim £225,000 as Susan’s unused nil rate band.
Jon’s estate consists of one-half of the family home, now worth £300,000, along with the other assets, now valued at £800,000, totalling £1,100,000.
The total amount of nil rate bands available to offset against Jon’s estate is equal to £325,000 (Jon’s standard nil rate band) + £225,000 (from Susan) +£175,000 (Jon’s RNRB) = £725,000.
A tax liability of 40% exists on £1,100,000 less £725,000 = £375,000, meaning that £150,000 is payable in IHT.
The £1m nil rate band may sound like a great thing, and for the right client it will provide valuable IHT benefits, but not everyone will be able to take advantage of it. In addition, not only are IHT receipts expected to increase, even after taking into account the RNRB, but the number of estates suffering IHT is also expected to increase.
If inheritance tax planning is of importance to you, get in contact with us today. We may be able to help you avoid any unnecessary problems in the future.
If you or your family would like to talk us about your financial plans for future, please get in touch for a no-obligation meeting. Go to our website www.miadvice.co.uk and contact us via our “Get in touch” form on our home page or Contact Martin Dodd on 01902 742221.
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It is advisable to take advice from a professional financial adviser when making major financial decisions.
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This article has been prepared in good faith and based on Midlands Investment Agency’s understanding of the law and interpretation thereof at the time of creation. The contents should not be regarded as specific advice and we always recommend that specific advice is sort from a qualified professional. No responsibility can be accepted by Martin Dodd or Midlands Investment Agency Ltd., for any loss that may occur by a person acting or refraining from acting on the basis of this article.