Of all the taxes we have to pay, inheritance tax is perhaps the most hated.
And given it has cost the British public £5.4billion in the past tax year alone — almost double the amount paid eight years ago — it’s not hard to understand why.
Soaring house prices are partly to blame for the sharp increase, as more families are inheriting property worth more than £325,000 — the threshold at which inheritance tax kicks in.
Fight back: Changing rules mean that, by 2021, couples will be able to pass on up to £1million from your home before inheritance tax is due
Currently, they must pay tax at 40 per cent tax to HM Revenue & Customs on the value of any assets (including property, possessions and savings) over this limit when someone dies.
And there is no escape if you give your assets away during your lifetime, as anything given within seven years before your death may also be subject to tax — and could mean your relatives are chased for money after you’ve gone.
If you leave your home to your spouse or civil partner, you can pass it on tax-free, and the threshold is raised to £450,000 if you leave it to your children or grandchildren.
Changing rules mean that, by 2021, couples will be able to pass on up to £1million from your home before inheritance tax is due.
But in the meantime, six experts share legal ways to cut your loved one’s tax bill by tens of thousands of pounds.
Give up to £3,000 in cash every year
Rachael Griffin, of wealth management firm Quilter, says: ‘If you want to pass money on in the simplest way, use the £3,000 annual inheritance tax gift exemption.
This allows you to hand over gifts — including cash or assets, such as jewellery — up to the value of £3,000 a year.
‘The exemption means that even if you were to pass away straight after giving the money, it would not be included when calculating the value of your estate and would be inheritance tax-free.
There are no restrictions on who you make the gift to, so it could be a friend or relative — or you could put the money into a trust for your grandchild.
‘If you don’t use the full £3,000 allowance in one year, you can roll it over to the next. So, if you gifted £2,500 one year, you could carry forward £500 worth of allowance and gift £3,500 in the next. But you cannot do this over multiple years.
‘Another system called a Potentially Exempt Transfer (PET) means you can give any individual an unlimited amount — but it will only be exempt from inheritance tax if you live for seven years after making the gift.
If you die before then, the value will be added to your estate and could be subject to up to 40 per cent inheritance tax.’
Pay for a loved one’s Big Day
Patricia Mock, tax director at accountancy firm Deloitte, says: ‘The ‘marriage exemption’ allows anyone to gift money to their children, grandchildren or great-grandchildren when they decide to marry.
Each parent can give up to £5,000 to the couple, which means a mother and father could give up to £10,000 in total free from inheritance tax.
‘Grandparents and great-grandparents of the couple are each allowed to give £2,500 for the wedding or to help start them off in married life. Other relatives or friends can give up to £1,000.’
‘The money must be given to the couple before the wedding — it will not be exempt if given afterwards. Keep a record of payments so exemption can be proved, if necessary, after your death’.
Help out with living costs
Chas Roy-Chowdhury, of the Association of Chartered Certified Accountants, says: ‘Many people will already be making payments to cover the everyday living expenses of children under 18 or in full-time education, ex-spouses or relatives, like elderly parents.
Give to a good cause
It may not directly help your family, but supporting a charity will reduce your inheritance tax bill because you can make donations free from tax.
What’s more, if you donate one-tenth or more of your net wealth to charity, the Government could cut your inheritance rate from 40 per cent to 36 per cent, saving even more money for your family.
‘These payments will not be included when the taxman is calculating how much inheritance tax is due. But there are three important things that HMRC will be watching out for.
‘First, it is critical the payments come out of your income, such as a salary, pension, interest or dividends. You cannot sell assets — like property or possessions — to generate cash and pass that on.
Second, you must make sure the money is part of your ‘normal expenditure’ and not a one-off gift. So, paying children at university a few hundred pounds to help with their living expenses every month is fine, but paying them one lump sum once or twice a year may not be.
‘Finally, you need to be able to prove making these payments does not affect your ‘normal’ standard of living.
For example, if you usually take a holiday every year you need to show you were able to maintain that lifestyle.’
Give away your extra income
Kelly Greig, partner at Irwin Mitchell Private Wealth, says: ‘You can give away money free of inheritance tax provided it comes out of your surplus income.
‘But it’s not quite that straightforward and you need to ensure you meet two essential requirements.
‘First, make sure the gifts are part of a regular pattern of giving and are not one-off payments.
‘Show this by setting up a standing order or by a signed and dated letter outlining your commitment to, say, paying your grandchild’s school fees every term. Then just one payment could be accepted as a new, regular, payment pattern.
‘Second, you must make sure what’s left of your income — salary, bonus, pension, interest or dividends — will maintain your normal standard of living.’
Make unlimited small gifts
Adam Waller, tax partner at accountancy firm PwC, says: ‘Known as a ‘use it or lose it’ allowance, the £250 small gift exemption means you can make multiple gifts of up to £250 every year free from inheritance tax.
‘You can make these gifts to as many different people as you like and they don’t count towards the annual £3,000 gift exemption — as long as you don’t give that money to the same person.
‘There are some things to watch out for. The £250 gift relief is ‘all or nothing’, which means that if you make several small gifts over the course of the year that add up to more than £250, they may not be free from inheritance tax.
‘For example, if you make a gift to your grandchild of £200 this Easter, plus another £100 when they go back school in September, neither of these payments would qualify for tax relief because the total of £300 given to one individual in the tax year would exceed the £250 limit.
This means the payments could be included in the total value of your estate if you pass away within seven years, which is subject to inheritance tax.
‘However, giving £200 and then £50 would be fine, as it doesn’t exceed the limit.
‘The small gift relief is a good way to get started but it is very important to keep a record of all gifts that you make including the date, value, and who received them, to prevent any confusion in the future.’
Pass on your pension
Andrew Tully, of retirement finance specialists Canada Life, says: ‘Before the overhaul of the pensions system in 2015, it was generally not tax efficient to pass on a pension because they could be taxed at rates of up to 55 per cent.
But the pension freedoms have changed the way people can access their money in retirement.
‘Under the new system, defined contribution pensions — which are based on the value of what you have paid in rather than on your final salary — can be passed on.
And, unlike with the old system, this can be tax-efficient or even tax-free.
‘When someone dies before the age of 75, payments from the pension will be made tax-free to the beneficiary (normally a family member or friend named by the pension holder).
Or if they die aged 75 or over, pension payments will be made to the beneficiary at their own rate of income tax.
‘The pension can be passed on more than once, meaning a large pension pot could be accessed by two or more generations.
- With all of the options above, the ideal inheritance tax plan for you will vary depending on your individual circumstances and it is important to seek professional, independent financial advice. Keep meticulous records of all your gifts alongside your will to help your family when you are gone.