What is Inheritance tax and when do you pay it?
Inheritance Tax is payable after you die and is usually dealt with by the people dealing with your financial affairs once you have died. Before any calculations are made any debts and funeral expenses need to be deducted. Depending on how much remains, there may be Inheritance Tax to pay before any distribution of your assets is made.
What is the Inheritance Tax threshold?
For people who are married, in a civil partnership or widowed, the threshold for Inheritance Tax is currently £650,000 between them. For single people, the Inheritance Tax threshold is currently £325,000.
Who pays Inheritance Tax?
If you are single and your estate is valued at below £325,000, then there is no Inheritance Tax to pay. If your estate is over the £325,000 limit, then Inheritance Tax has to be paid at 40% of the amount in excess of £325,000.
As the value of your estate increase it is useful to regularly review the value of property and investments so that you can calculate what the Inheritance Tax liability is. For example, if your estate is currently worth £500,000, then there would be an Inheritance Tax of £70,000 – 40% tax is charged on £175,000 (£500,000 – £325,000).
If you are the first person to die in a marriage or civil partnership and you can leave everything you own to your husband/wife or civil partner, there will be no Inheritance Tax to pay, regardless of the value of your estate.
If, on the other hand you are the first person to die in a marriage or civil partnership, and you do not leave everything you own to your husband/wife or civil partner, then there is likely to be an Inheritance Tax liability, if the value of your estate is in excess of £325,000.
If you are a widow, widower or surviving civil partner
If you are the husband/wife or civil partner leaves all their estate to you, they also pass on their £325,000 Inheritance Tax allowance.
You can add this to your own allowance, meaning that your own estate may only have to pay Inheritance Tax if it’s worth over £650,000. If that happens, the amount of tax due is 40% on the amount over and above £650,000. The example below shows what might happen.
- If your wife dies and leaves you her entire estate valued at £600,000, no Inheritance Tax will be due – because spouses and civil partners do not pay inheritance tax on money and/or property they leave to each other. This is called inter-spousal exemption.
- However if you also have £350,000 of your own, then when you die, the combined estate will be worth £950,000 – £300,000 over the combined limit of (currently) £650,000.
- Inheritance Tax at 40% will be due on that £300,000, which amounts to £120,000.
If you think your estate is worth more than the nil rate band
If your estate is worth more than the nil rate band, there are measures that can be taken to minimise Inheritance Tax. In fact, many people regard Inheritance tax as a voluntary tax as with prior and careful planning, it can be avoided altogether.
If your estate will be below the limit – The good news is, you do not have to do anything – most estates don not have to pay Inheritance Tax at all as they are below the nil rate band. Your estate can pass to anyone free of Inheritance Tax.
- Use your annual gift allowance of £3,000. If you have not uses last year’s allowance, you can use that as well. And both you and your spouse can do it. So you could potentially gift away £12,000 immediately.
- Gift away some of your money/investments and survive 7 years. After 7 years it will no longer be part of your estate and not liable for Inheritance tax.
- Transfer your ISA investments into an AIM ISA. After 2 years, your AIM ISA’s will no longer form part of your estate for Inheritance tax purposes.
- Reduce your estate now on your death by gifting money to charity or recognised political party.
- Arrange for your investments to be put into a suitable trust, that will ensure that any growth from now is outside of your estate and the initial investment after a further 7 years. This way you can retain control over how the investment is looked after.
It makes sense to check the value of your estate every so often. If you inherit some property or money, your estate could suddenly in value and be liable for Inheritance Tax upon your death.
Always consult a qualified financial adviser before making any tax or investment decisions. The above article is only for guidance and should not be taken as advice.
Contact Martin Dodd on 01902 742221 or email him at email@example.com if you would like talk about money issues for your grandchildren.
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