• Kylie Simmonds-Cox

Inheritance Tax considerations you should take into account when Writing a Will

Although, very few estates (4% - 5%) are subject to Inheritance Tax (IHT), a carefully written Will can ensure that the available Nil Rate Band as well as any exemptions and reliefs that might be available are fully exploited and utilised.


IHT is not only charged upon death but also on some lifetime transfers. IHT is charged during the lifetime at a rate of 20% on any chargeable transfer and 40% on the value of the estate; over the Nil Rate Band (currently £325,000 2020/2021).


A chargeable transfer is one that is not exempt or potentially exempt (in the case of lifetime transfers).


Potentially Exempt Transfers (PET) - The 7 Year Rule

If the donor (the person making the gift) survives for 7 years following the transfer, then the transfer will be exempt and no IHT will be payable on this gift. If the donor dies within 7 years, then IHT may be payable depending on the available exemptions and reliefs available but could be subject to Taper Relief.


IHT payable on PETs made within seven years of the testator's death is payable by the recipient. The testator may wish to provide for the IHT to be payable from the residue of the estate which creates a pecuniary legacy in favour of the beneficiary of the lifetime gift.


Taper Relief

If there's IHT to pay, it's charged at the 40% rate on gifts given in the 3 years prior to the death of the donor. Gifts made 3 to 7 years before the death are taxed on a sliding scale as below:


Example [Source]:

Sally died on 1 July 2018. She was not married or in a civil partnership when she died.

Sally left 3 gifts in the 7 years before her death:

  • £300,000 to her brother 6.5 years before her death

  • £50,000 to her sister 4.5 years before her death

  • £150,000 to her friend 3.5 years before her death

Sally is not entitled to any other gift exemptions or reliefs.


There’s a £325,000 inheritance tax threshold. Anything below this amount is tax free. £300,000 is used up by the gift Sally gave her brother. There’s no tax to pay on his gift. The remaining £25,000 is used up by her £50,000 gift to her sister. There’s tax to pay on the amount not covered by the threshold. That means there’s tax to pay on £25,000 of the gift to Sally’s sister at a rate of 24%.


The £150,000 gift given to her friend is taxed at a rate of 32%.


Sally’s remaining estate was valued at £500,000 and charged at the usual 40% inheritance tax rate. Sally used up the tax-free threshold on gifts given before her death.


Exempt Transfers

There are some exemptions that only apply on death and others that only apply in respect of lifetime transfers, whilst there are others that apply whether on death or during the lifetime. Any exemptions and reliefs are exhausted before the Nil Rate Band is used. It is worth noting that the Nil Rate Band is not an exemption, it is an amount charged to IHT at 0%.


Lifetime Exemptions

  • Annual exemption of cumulative gifts of £3,000. It is possible to roll over the previous year annual exemption, if this was not used.

  • Single gifts of £250 to as many recipients as the donor wishes.

  • Gifts out of income which the donor can prove does not impact on their normal standard of living.

  • Celebration of marriage gifts or civil ceremony gifts of up to £1,000 per person (£2,500 for a grandchild or great-grandchild, £5,000 for a child).

  • Payments to help with another person’s living costs, such as an elderly relative or a child under 18

  • Any gifts between spouses or civil partners, as long as they live in the UK permanently, this includes any life interest gifts.

  • Gifts to charities, qualifying political parties and national bodies, such as museums.

Exemptions Available Upon Death

  • Any gifts between spouses or civil partners, as long as they live in the UK permanently, this includes any life interest gifts.

  • Gifts to charities, qualifying political parties and national bodies, such as museums.

The Residence Nil Rate Band (RNRB)

This is an addition to the basic Nil Rate Band and further reduces the IHT payable on death but it is restricted to:

  • The value of a residential property

  • The estate on death, and

  • The inheritance of lineal descendants.

Further information about the RNRB can be found in our blog entitled Residence Nil Rate Bands – How, what and when not.


Spouse Exemption

The principal question is whether the estate or a portion of the estate should be given to the spouse or civil partner as an absolute gift or held on a discretionary, life interest or flexible life interest Trust. Absolute gifts to the spouse or civil partner and gifts to be held on a life interest Trust for a spouse or civil partner both attract the spouse or civil partner exemption so are not chargeable to IHT. Gifts to a discretionary Trust will be chargeable to IHT under the relevant property regime.


A great deal depends on how much the survivor needs to maintain a comfortable, lifestyle but a basic strategy has always been to leave as much as possible up to the amount of the nil rate band either to chargeable (non-exempt) persons such as children or into a nil rate band discretionary Trust with the remaining balance of the estate to the spouse to delay the charge to IHT until their death before which the spouse is able to make further lifetime gifts to reduce the value of the estate. The transferable nil rate band may now render this strategy unnecessary. We explore this subject further in our blog entitled Should Nil Rate Band Trusts Still Exist?

Minor Children

Any gift to a minor is held on a bare trust until they attain the age of 18, unless an age contingency is specified in the Will. If the gift is from a parent to their child then it will be held on a bereaved minor's trust until the age of 18 or an 18-25 trust until no later than the age of 25. The latter will be subject to the Relevant Property Regime and an exit charge may be payable. Further details can be found in our blog post; How can I make sure my child is looked after when I die?


Bereaved Minor's Trusts and 18-25 Trusts are only available to the children of the testator (the person who has died) and not to the grandchildren. A relevant property trust is often appropriate, particularly is the grandchildren have attained the age of 18, for the flexibility that it provides in allowing for the class of beneficiaries to remain open. If the grandchildren are under the age of 18 then a bare trust has the advantages of utilising the Capital Gains Tax and income tax status of the minor beneficiaries.


Two-Year Trusts

Many practitioners suggest the use of a Two-Year Trust as a popular and to provide the greatest flexibility following death. The benefit arises from the ability of 'reading back' which is provided by s.144 Inheritance Tax Act 1984. The advantages:

  • they provide after death flexibility in Will giving

  • they, in effect, create a two-year survivorship period

  • as a post-death rearrangement they do not require the consent of each beneficiary as would a post-death variation

Gifts

A testator is free to choose where the burden of IHT will fall in their estate, usually the IHT is deducted from the residuary estate although the testator's wishes can be overridden. Non-residuary gifts are usually paid free of IHT unless the testator expresses a contrary intention by placing the obligation onto the recipient of the non-residuary gift. The Will should be clear whether the IHT on a gift is to be paid by the beneficiary of the gift or whether the gift passes free of IHT.


Agricultural and Business Property

The relief is only available for agricultural property and is generally given at 100% of the value. If the full relief is not available, business property relief may be available instead. The relief only applies to agricultural property in the UK, not to agricultural property outside the jurisdiction, even if the testator is domiciled in the jurisdiction. Generally, the rate of 100% will only be given if the land was valued with vacant possession or was let on a farm business tenancy beginning on or after 1 September 1995. In all other cases, the rate will be 50%. Business property relief is available on relevant business property and can carry 50% or 100% relief from IHT depending on the type of business interest.


10% for 10%

In addition to the Charitable Gift exemption, where a testator leaves 10% of their net estate to charity. IHT will be payable at the reduced rate of 36% instead of the usual rate of 40% The relief is particularly attractive to higher or additional rate taxpayers.


As you can see, when it comes to Inheritance Tax there are numerous things to consider and to achieve the best outcome, professional and tailored advice should always be sought.

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