The original idea of inheritance tax was that when wealthier individuals died, part of their wealth was redistributed via the tax system. Many would argue that over time the tax has shifted it’s focus and many who wouldn’t consider themselves “wealthy” are now left with an inheritance tax bill.
Considering this, it’s no surprise that people question how to avoid the inheritance tax charge in the UK? In this article we will cover the basics of inheritance tax and then look at 3 steps that can be taken to potentially reduce exposure to this death tax.
What Is Inheritance Tax?
- Transfers made between spouses and civil partners
- Gifts made to a charity, community amateur sports clubs or qualifying political parties
- Gifts to museums and other national interests
- Small gifts less than £250 in value
- Gifts on marriage and civil partnerships – limited to £5,000 for gifts to children, £2,500 for grandchildren or other direct descendants and £1,000 for anyone else
- Some transfers made out of disposable income
Chargeable lifetime Transfer V Potentially Exempt Transfer
IHT On Death
- Consider all lifetime transfers within 7 years of death with no distinction being made between chargeable lifetime transfers and potentially exempt transfers (this is because a PET essentially becomes a CLT if the transferor dies within 7 years)
- Calculate the tax charge on each CLT in chronological order. The first £325,000 of chargeable transfers is covered by the nil rate band meaning no tax would be payable. Any chargeable transfers in excess of this are taxed at 40%
- Where a transfer took place more than 3 years prior to the date of death then taper relief can be applied to the tax amounts. Tax already paid is taken into account here but If the tax originally paid exceeds the amount calculated on death then no refund is available for overpaid tax
- If any nil rate band remains then it can be set against the value of the remaining estate. Anything in excess of the remaining nil rate band is taxed at 40%
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1. Make Small Gifts & PET’s
Of course gifting away assets isn’t something that should be done without due consideration but the use of small gifts and potentially exempt transfers to family and friends can be a very tax efficient way of how to avoid the inheritance tax charge.
Technically an individual can make as many small gifts as they like providing they don’t exceed the £250 per person per tax year limit. Where the limit is exceeded the exemption won’t apply at all to that person so you can’t reduce the value of a £500 gift to £250 by applying the exemption.
The main restriction to consider is 7 year rule which can limit the effectiveness of a PET if the transferor dies suddenly but typically providing the transferor survive at least 3 years then there should be some tax benefit to be had.
The use of potentially exempt transfers to reduce the value of an estate is without a doubt the most effective tool available on how to avoid the inheritance tax charge.
2. Estate Shaping
- Consider owning property (if you don’t already). This could allow you to utilise the residence nil rate band in addition to the nil rate band if you meet the qualifying criteria
- Consider purchasing assets that may qualify for business property relief or agricultural property relief such as an interest in a business or certain woodlands. Again there are certain conditions that would need to be met
3. Give More To Charity
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Adam Hill
Practice based accountant with over 10 years experience, specialising in SME's, Freelancers and Personal Tax. "I take pride in proactively recognising tax planning opportunities on behalf of clients to help them operate more efficiently."
