Leaving your family with an Inheritance tax (IHT) bill might feel unfair, especially given you’ve already paid tax on the assets you’ve accumulated during your lifetime.

Whether you agree with it or not, IHT is here to stay, but there are ways to minimise or even eliminate your IHT liability.

The first step is to determine the size of the IHT bill you could potentially be leaving behind. You should also bear in mind that tax rules can be complex and subject to change, so you’ll benefit from seeking advice from an independent financial planner.

How much could you leave without attracting IHT?

Inheritance tax is charged at 40%, but there are allowances in place. If the value of your estate, including property, savings, investments, and life insurance policies, is below £325,000, you’re under what’s called the ‘nil-rate band’, and there’s no IHT to pay.

In addition, there’s a ‘residence nil-rate band’ (RNRB). There are qualifying criteria that your financial planner can talk you through, but if you leave your home to your children or grandchildren, they can make a claim to HMRC for £175,000 (or the value of the property if lower). If your estate is worth over £2 million, the RNRB reduces by £1 for every £2 over the £2 million threshold.

Both nil rate bands effectively mean a couple who are married, or in a civil partnership, have a joint IHT threshold of £1m.

If you’ve calculated that your estate is likely to exceed your IHT limit, there are steps you can take to reduce this tax liability on your heirs

Leaving assets to your spouse or civil partner

When it comes to inheritance tax for married couples and civil partners, there’s usually no need to pay inheritance tax. So if you leave your estate entirely to your spouse they won’t face an IHT bill. This approach also preserves your IHT allowances, allowing your surviving spouse or civil partner to benefit from a combined nil-rate band of £650,000 (£325,000 x 2) plus a combined residence nil-rate band of £350,000 (£175,000 x 2).

If you’ve calculated that your estate is likely to exceed the limits, you may want to explore how you can reduce this tax liability on your heirs.

Making a will:

Making a will helps ensure your assets will be distributed according to your wishes. You can make gifts during your lifetime to maximise your IHT allowance, or establish trusts to keep certain assets outside of your taxable estate. Without a will, the ‘rules of intestacy’ will apply, and your estate will be distributed irrespective of the deceased’s wishes and with no consideration towards the IHT your beneficiaries may be required to pay.

Gifting money in your lifetime:

This is a straightforward and effective way to reduce your IHT liability. You can gift up to £3,000 in total per tax year, without it being included in the value of your estate (annual exemption). So, if you’re a couple, that’s a total of £6,000 per year between you. You can also make individual gifts of up to £250 to as many people as you like, as well as unlimited gifts to charities. It’s important to note that if you make any larger gifts, they may be subject to IHT if you die within seven years.

Setting up trusts:

Establishing trusts is another common method of reducing your IHT liability. By placing assets into a trust, they no longer form part of your estate for IHT purposes. However, assets must be held in the trust for at least seven years to become fully IHT-exempt. Different types of trusts offer flexibility in estate planning. If you’re considering placing money in trust, it’s important to seek advice from an independent financial planner, who can recommend the best trust for your circumstances and objectives.

Buying life insurance:

A Whole of Life insurance policy can help to cover a potential IHT bill. The policy will pay out on the death of the insured person, and the proceeds can be used to settle the bill. Term insurance policies provide a lump sum during a specified period, offering financial protection if gifts are made but not yet IHT-exempt. Placing the policy in trust also keeps the payout outside of your taxable estate.

Investing tax-efficiently:

Investing in Business Relief (BR)-qualifying companies has become a popular IHT strategy for people with significant assets. You don’t need to own a business to invest, and if you hold the shares for at least two years before dying, they can be passed to your beneficiaries free from IHT. BR-qualifying investments can be attractive if you don’t want to wait for gifts or assets in trust to become IHT-exempt. However, they are higher-risk investments and may not be suitable for everyone. Talk to your independent financial planner for advice on what’s best for you, your attitude to investment risk and your circumstances.

Maximising your pension contributions:

Increasing your pension contributions can be an effective way to reduce the IHT liability for your beneficiaries. Since April 2023, you can make an annual contribution of up to £60,000. If you die before age 75, the amount in your pension pot is not subject to IHT. If you die after 75, while there’s no IHT, your heirs may face income tax charges based on their personal allowances.

Amber River Financial Planning

Planning for IHT is an important aspect of estate planning, to ensure your loved ones receive the maximum benefit from your estate. By implementing these strategies and seeking guidance from an Amber River financial planner, you can work towards reducing or even eliminating your IHT liability. Remember that everyone’s circumstances are unique, and it’s crucial to consider your individual situation when making estate planning decisions. With careful planning, you can provide your loved ones with a secure financial future while minimising the impact of IHT on your estate.

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