Inheritance tax and the next generation

Inheritance tax and the next generation

“It is said that people who are “healthy, wealthy and well-advised” rarely pay inheritance tax (or rather, their estates do not)”. This quote comes from the report of a recent FT Money reader event1. It assumes that the wealthy can give away assets to the next generation without paying inheritance tax (IHT) because they live longer than seven years after the gift and/or they’re able to utilise various plans to avoid paying it.

In reality, there are many ways to avoid paying IHT and you don’t have to be particularly healthy or wealthy to do it.

First, a reminder of the IHT regime. The key points are:

  • Each person can pass on estates worth up to £325,000 (2018-19 tax year) without an IHT charge. This is called the nil rate band.

  • From 2018, a further £125,000 of your own home’s worth can be passed on without a tax charge if inherited by your children/grandchildren. This allowance will rise to £175,000 by 2020.

  • No IHT is payable on assets left to a spouse or civil partner

  • The IHT charge is 40% on all assets above the nil rate band (36% if more than 10% of the taxable estate is left to charity)

Second, what are the primary planning options for avoiding tax?

  • Pensions – monies in defined contribution pensions usually have no inheritance tax to pay. And for those dying before age 75, family members can receive the pension money entirely free of tax if within the lifetime allowance.

  • Gifts – there are a variety of gifting options that avoid IHT, summarised as:

    • £3,000 annual allowance per donor to one or more recipients

    • Up to £250 a year to each of any number of recipients (excluding those receiving under the £3,000 allowance)

    • Lifetime gifts of any amount which are free of tax so long as the donor lives for more than seven years after the gift. If the donor dies within that period, IHT is payable on a tapered basis to the extent that the gifts exceed the nil rate band.

  • Trusts – this is more complex planning territory. Trusts can provide a home for assets from which an income can be drawn while alive, but leaving the remaining assets free from inheritance tax as they lie outside the estate.

  • Business Property Relief (BPR) – originally this was intended to apply to family businesses and eliminated IHT on a range of assets so long as they’re held for at least two years before death. For more details on BPR and the eligible assets/investments, speak to a professional adviser.

Beyond these provisions, effective financial planning can both reduce and manage the IHT bill on estates. For example, whole of life insurance policies can be purchased and placed in trust so that they pay out benefits on death outside the estate. This approach can provide liquidity to meet the IHT bill where assets, such as houses, may be illiquid. In addition, the payment of premiums to the policy will reduce the assets in the estate, thereby reducing the IHT bill itself. As ever, the value of investments can fall as well as rise and you may not get back what you invest.

This article provides only a selective and swift overview of the possibilities for avoiding unnecessary IHT. It is a very complex subject and it would be wise to engage with professional advisers if you think your tax bill would be hefty.

As for giving it all away, there’s a danger that people will then become dependent on their children in later life if they live for longer than expected or need expensive care. As Merryn Somerset Webb2 said to the Forum audience:

“Trust me, they won’t thank you for that. The best gift you can give your children is your own financial security in later life”

For more information on inheritance tax see our factsheet.

Please note – the Financial Conduct Authority (FCA) does not regulate Tax Advice or Estate Planning.


1FT Money Investment Forum held on June 19th and reported in the Financial Times on June 22nd 2017

2Merryn Somerset Webb - FT Money columnist and Editor in Chief of MoneyWeek

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