When it comes to Inheritance Tax (IHT) planning, working out the size of a potential IHT bill you might be leaving your loved ones can be quite a challenge. Not least because HMRC tax rules are complex and can change at short notice.

If navigating IHT feels like a bewildering maze, you’re not alone, which is why many people turn to an expert for help.

Who is best placed to advise on inheritance tax?

Because of the complexities involved and the fact there’s no ‘one size fits all’ (your personal circumstances and aspirations will determine your plan), we believe the best person to advise you on IHT is an independent financial adviser.

They will meet with you to understand your circumstances and assess the size of your estate, and the IHT it will attract. Once they have a complete picture, they can recommend ways to reduce a potential bill. This might include options to gift money while you’re still alive and ways to make use of tax allowances, exemptions and Trusts.

Together, you can devise a tax-efficient investment strategy, identify ways to mitigate unnecessary IHT and, where there’s likely to be a sizeable bill, ensure there will be money available when the IHT bill becomes due.

HMRC requires that an IHT bill must be settled within six months of the person’s death before it starts to attract interest.

How big could the IHT bill be, and who pays it?

If you leave your entire estate to your spouse or civil partner, your estate won’t be liable for IHT (until their subsequent death). But if you leave elements of your estate to other family members or an unmarried partner, they may be subject to a 40% tax bill on everything above the ‘nil-rate band’ (currently set at £325,000).

Alongside the nil-rate band, there’s also a ‘main residence nil-rate band’ of £175,000 available. If you leave your home to your spouse or a direct descendant, that effectively increases your nil rate band to £500,000.

On the death of the surviving spouse, the joint nil-rate band allowances will merge, giving the estate a maximum nil-rate allowance of up to £1 million (£325,000 x 2, plus £175,000 x 2).

An IHT bill would need to be settled from the sale of assets within the estate, and managed by either the executor (if there’s a Will) or the estate administrator.

Beneficiaries of any large gifts made within seven years of the benefactor’s death could also face an IHT bill.

When does inheritance tax need to be paid?

HMRC requires that an IHT bill must be settled within six months of the person’s death, before it starts to attract interest. However, the probate process can take longer, especially for complex estates, rendering estate funds unavailable. To add insult to injury, probate isn’t generally granted until the IHT has been paid. So, if beneficiaries lack the available funds within the six months, it adds to the overall bill and their financial stress.

What happens if the bill becomes overdue?

If the payment isn’t made in total when due, HMRC starts charging interest at a current rate of 7.75%. Your beneficiaries can arrange to pay inheritance tax in instalments over a period of time, but interest will continue to accrue on the outstanding debt.

Key areas to consider when thinking about IHT

When you sit down with an IFA they’ll do a lot of listening in order to understand your situation. When it comes to IHT planning in particular, we’ve listed below some of the areas they will discuss with you in order to formulate a bespoke plan:

1. Writing a will

Even if your assets fall below the nil-rate band, if you die without a will, you’ll be at the mercy of intestacy laws and a potentially lengthy and costly probate process. This could cause your dependents financial difficulties while they wait for the money you’ve left them, as well as a lot of unnecessary hassle and stress involved in administering someone’s estate.

A will allows you to leave instructions about how you want your assets distributed, to whom and the reasons behind your choices. It enables you to leave gifts and set up trusts that place some of your assets outside of your taxable estate. Without a will, the government will decide all of this for you, without considering IHT planning.

It is possible to write your own will, but we wouldn’t advise that. It’s easy to make mistakes and miss out important details, which could cause legal problems for your executors.

Your independent financial adviser will be able to recommend a solicitor and work with them to ensure your will supports your overall financial and estate plan.

2. Tax-efficient gifts

You can gift up to £3,000 every year, plus smaller gifts of £250 to as many people as you like, without them being added to the value of your estate. This is known as your annual exemption. There are also special gift allowances available, including gifts to charity, and gifts towards your children or grandchildren’s wedding (£5,000 and £2,500 respectively). And if you want and can afford to contribute towards your child’s rent payments, there’s an allowance to gift money from your normal monthly income.

You can gift more, but if you were to die within seven years of making these additional gifts, they will be subject to IHT on a sliding scale, known as Taper Relief:

Time between the date of the gift and date of death Tax due
3 to 4 years 32%
4 to 5 years 24%
5 to 6 years 16%
6 to 7 years 8%
7 years plus 0%

An independent financial planner can help you decide how much of your estate you can afford to gift each year. They’ll run cashflow modelling scenarios so you can see how the gifts you choose to make could affect your lifestyle – now and in the future. You’ll need to keep records to help your executors see how much, when and to whom you’ve gifted money.

3. Trusts

Trusts are a useful tool to ringfence money outside of your estate for a specific use. For instance, you may want to pay for your future grandchildren’s education, or leave an inheritance to your children but only allow them access after they reach a certain age.

You can also nominate a beneficiary who will receive an income from any investments or reside in a property during their lifetime, but on their death, the assets and property pass directly to a different named beneficiary. This is particularly useful if you’ve remarried but want your share of the assets and property to go to your children from a previous marriage.

There’s a range of trusts available, the most common being Bare Trusts and Discretionary Trusts, with different features and benefits and, importantly, tax charges.

See our Setting up trusts and gifting article for more information.

An independent financial planner will discuss with you how you want your assets distributed on your death, and suggest various ways you can do this. You can then use the services of a solicitor to set up the various trusts.

If you die before 75, your pension pot is not subject to IHT

4. Life Insurance

You might think of life insurance as a way of ensuring your dependents have enough money to maintain their lifestyle if you were to become seriously ill, or die unexpectedly. But it can also be used to help cover the cost of an IHT liability. This type of life insurance is called a Whole of Life insurance policy and will pay out upon your death. Placing the policy in trust for the purposes of paying IHT will also ensure the payout falls outside of your taxable estate.

An independent financial adviser is not limited to a panel of providers and can, therefore, find the best policy for you and your circumstances.

5. Pension planning

The removal of the pension Lifetime Allowance, and the simultaneous increase in the annual pension contribution limit to £60,000 per year, opens a new opportunity to reduce the IHT on your estate. If you die before 75, your pension pot is not subject to IHT. And even if you die after your 75th birthday, there’s still no IHT to pay, although your beneficiaries will have to pay income tax based on their personal allowances. If they’re lower-rate taxpayers, that’s still a lot less than an IHT rate of 40%. Therefore, if you’re in a position to increase your pension payments now, not only will you benefit from an immediate tax saving, but your heirs could also receive a reduced inheritance tax bill – assuming there’s money left in your pension fund when you die.

An independent financial planner is the best person to advise on pension planning. If you don’t have a pension, they’ll be able to set one up for you, and if you do, they’ll be able to help you decide how much to contribute each month and what this could mean to your retirement income and IHT liability.

Amber River Independent Financial Planning

Preparing for inheritance tax is a vital piece of estate planning. By enlisting the expertise of an independent financial planner, you can navigate the complexities of IHT and have a financial plan in place that ensures your loved ones can reap the maximum rewards from your estate.

Get in touch

To speak to us about your investment goals, or to arrange an appointment, call 0800 915 0000, or alternatively use our contact form here.