This year has far from been the year many of us expected. Jobs have been lost; holidays, weddings, christenings and parties have been cancelled; and worse of all, many of us have sadly lost close friends and family to this nasty virus. Covid-19 has made many of us consider our own situation and realise the importance of putting our affairs in good order. If you have some spare time on your hands during this time when we are restricted in where we can go and what we can do, getting your affairs in order and planning your estate may be a wise way to spend it.
We do not know at this stage what the total UK debt will be following Covid-19 but many have fears as to how this will be repaid and the effect this will have on both current and future generations. It was reported on 25 November 2020 by the Office for Budget Responsibility, that the estimated borrowing for the financial year April 2020 to April 2021 could be as much as £394 billion, the highest ever seen outside of wartime. Before Covid-19 the estimated expected borrowing for the same period was £55 billion, therefore the borrowing is estimated to have increased seven fold due to this virus.
This huge debt will need to be repaid. It is thought by many that the government will have to cut spending or raise taxes or a mixture of both in order to repay the huge debt hanging over this country.
One option available to the government may be to increase the Inheritance Tax percentage or lower the threshold in which you start paying Inheritance Tax, meaning that the wealthy will be hit as well as many middle income families. With that in mind, now may be the perfect time to consider some tax planning with a view to reducing your potential Inheritance Tax liability.
What is inheritance tax?
Inheritance Tax is payable on your estate when you pass away. Your estate is made up of your assets which can include but is not limited to property, land, personal possessions, bank accounts and investments less any debts or liabilities.
If your estate is valued above £325,000, Inheritance Tax may be charged on the value over this threshold. Inheritance Tax is usually charged at a rate of 40%.
With the average house price in England now at £256,000 (according to the Office for National Statistics) and the average house price in the South East thought to be in the region of £410,000, it is not surprising that many estates are now subject to the payment of Inheritance Tax but there are various ways you can mitigate your Inheritance Tax liability.
Indeed, there are many estates which exceed the £325,000 threshold which do not pay any Inheritance Tax at all due to the various exemptions and reliefs and these are considered further below.
Passing your Estate to a spouse or a charity
In most cases, anything left to your spouse or civil partner or to a charity is not subject to Inheritance Tax.
If you leave your estate to a spouse or civil partner and your Inheritance Tax allowance of £325,000 is unused in full or in part, this can be transferred to your surviving spouse or civil partner and be used on their death.
Residence Nil Rate Band
Since 2017, there has been an additional provision to protect the estates of parents and grandparents when passing on a main residence to direct descendants (e.g. children or grandchildren). This is known as the Residence Nil Rate Band and in 2020/21 it is worth £175,000 for estates of up to and including £2 million. This can be transferred between spouses, therefore if it is not used on first death (e.g. because the whole estate is passing to the surviving spouse or civil partner), it can be used on second death.
When the Residence Nil Rate Band is added to the main nil rate band of £325,000, a married couple or civil partnership could have a combined Inheritance Tax threshold of £1m before any Inheritance Tax is due and owing.
If your estate still faces a liability after the above provisions are accounted for, there are a number of ways to further reduce or potentially eliminate your Inheritance Tax liability altogether.
You could consider making gifts during your lifetime. A gift can be anything of any value.
If you survive seven years after the making of a gift, regardless of the value, then that gift falls outside of your estate for Inheritance Tax purposes.
Even if you were not to survive seven years, you may still pay less Inheritance Tax should there be a liability if you survive a minimum of three years from the date of the gift.
It is important that the gift is a genuine gift and that you do not continue to benefit from the asset being gifted. It is also important that you record the nature, value and date of the gift.
Every individual can currently give away £3,000 a year free of Inheritance Tax. It is not necessary for you to survive seven years from the date of the gift and the £3,000 exemption can be carried forward one tax year.
You can currently give up to £250 per person per tax year without incurring any Inheritance Tax liability.
Gifts out of Excess Income
Some individuals have the benefit of large pensions or an income stream which much exceeds their requirements for their day to day living. Current government legislation allows those individuals to give away their surplus income free of any Inheritance Tax.
It is extremely important that gifts of this nature are carefully recorded and that your standard of living is not compromised in order to facilitate the gifting of income.
As well as the above, there are various other tax planning options which are summarised below:-
- Money can be gifted to assist another person such as a child under the age of 18 or an elderly relative with living costs free of Inheritance Tax.
- Political donations are typically Inheritance Tax free.
- Wedding or civil ceremony gifts valued at £5,000 for a child, £2,500 for a grandchild or £1,000 for any other person are free of Inheritance Tax.
- If you leave 10% or more of your estate to a charity, that the Inheritance Tax rate on the remainder of the estate not passing to charity and over and above any available Inheritance Tax thresholds, reduces from 40% to 36%.
- Owning business assets or agricultural land/woodland may benefit from full or partial exemption from the payment of Inheritance Tax.
- Some investments once held for a qualifying period may qualify for Inheritance Tax relief.
With all of the above (which it should be noted are not an exhaustive list), it is important to take appropriate legal advice. The above information sets out some of the current rules and exemptions but how they apply to each individual is dependent on each client’s own personal circumstances. For example, if you or your spouse/civil partner are not domiciled here in the UK, the applicability of the above thresholds or rules may vary.
In addition to taking appropriate legal advice regarding the above, it is also important to stress the importance of keeping your Will up to date and regularly reviewed and our private wealth team can also assist you with this when advising you on the options for Inheritance Tax planning.
In conclusion, there are various ways you can reduce your Inheritance Tax liability and this may be even more important going forward if the government look to use Inheritance Tax as a mechanism of repaying some of the extensive debt the country has accrued as a result of Covid-19.
If you would like some advice regarding Inheritance Tax planning or to review your Will in light of the above, please contact our Private Wealth Team.
The contents of this article are intended as guidance for readers. It can be no substitute for specific advice. Consequently we cannot accept responsibility for this information, errors or matters affected by subsequent changes in the law, or the content of any website referred to in this article. © Mundays LLP