UK: Inheritance Tax

Inheritance Tax is payable on the value of a person’s estate on death and on the value of gifts made within seven years of death.

Most gifts made more than seven years before death are Inheritance Tax free, but this exemption may be lost or restricted, and it is therefore sensible to consider making gifts in the near future.

The rate of Inheritance Tax is currently 40 per cent.

With effect from 6th April 2004, the first £263,000 of taxable gifts/value of estate is tax free. This amount is called the "nil rate band". The value of the nil rate band is reviewed annually and is usually increased in line with inflation.

Gifts between spouses are generally exempt from Inheritance Tax except where the donor spouse is domiciled in the UK for Inheritance Tax purposes but the donee spouse is not, in which case the exemption is limited to a cumulative total of £55,000.

In addition to the other exemptions, each person has an annual exemption of £3,000 on gifts. This may be carried forward (if unused) for one year only.

A person can also make gifts of up to £250 a year per person to any number of people.

Many gifts of a business or shares in an unquoted trading company are wholly exempt from tax. This "business property relief" is subject to a number of conditions, principally that the shares must have been owned for at least two years before the gift. The relief extends to shares in AIM companies.

Regular gifts out of a person’s income are exempt from Inheritance Tax. The requirements are:-

1. The gifts must be regular;
2. They must, on the whole, be made out of income;
3. The gifts must leave the donor with sufficient income to maintain his or her normal standard of living.

If net income is higher than income need, a person can make quite substantial gifts out of income without affecting his or her standard of living. Gifts made out of income have the following advantages:

1. They maintain flexibility in case circumstances change. One can stop making the payments at any time. Further, as only income is given away, a person’s capital remains intact and available for use if required;
2. Any gifts within this exemption are totally Inheritance Tax free without any survival period;
3. The gifts need not all be to the same person or of the same amount, so a person could split the gift among a number of beneficiaries and/or vary the recipients or amounts each year.

If excess income is retained and invested, it could build up into a substantial capital sum on which Inheritance Tax will be chargeable on death.

1. Make lifetime gifts. Lifetime gifts of non-cash assets may however be subject to Capital Gains Tax which must be considered before any substantial non-cash gift is made. Gifts can be made into trust where the donor wishes to prevent the donee from having control of the funds given.
2. Insurance policies can be written in trust for the beneficiaries of the Will in order to discharge at least part of the Inheritance Tax.

If you wish to consider estate planning to reduce the overall Inheritance Tax burden on your estate please contact the authors of this article.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.