Inheritance tax the new growth area for the Treasury
At the end of July, HMRC released a wealth of statistical information regarding inheritance tax (“IHT”). The figures sat with our own experience, for in July we have been helping two of our clients deal with death estates where the deceased had not taken any steps to mitigate IHT, with significant liabilities arising.
Figures released by HMRC show that receipts from IHT jumped by 22%, a record take of £4.7 billion, driven by higher house prices, higher stock market and the freezing of the tax-free allowance, known as the nil rate band at £325,000 since 2009 and currently planned to remain at this level until 2018.
It has also been noticed that HMRC are taking a more aggressive stance with IHT returns, increasing the numbers they review and in particular challenging property valuations. The IHT teams at HMRC have been restructured to be more compliance focused i.e. collecting tax, as opposed to providing technical advice, as had been the historic position.
Research by Prudential in the same month also shows that a growing number of families are seeking advice on how to mitigate IHT. In particular with regards to the new additional allowance of £100,000 available from 2017-18, rising to £175,000 for 2020-21, but this only applies to the family home of a married couple with children. Single, unmarried couples or childless married couples will not benefit and it only applies to the family home.
IHT is charged at a flat rate of 40% for any assets held at the date of death over £325,000, this includes certain gifts made in the previous 7 year period. The first £325,000 will be charged at 0%. Where an individual makes outright gifts within the last 7 years of their life, taper relief is available to reduce the tax due as follows:
- If the gift was made less than three years before death, no reduction in tax is due;
- If the gift was made three to four years before death, tax is reduced by 20%;
- If the gift was made four to five years before death, tax is reduced by 40%;
- If the gift was made five to six years before death, tax is reduced by 60%;
- If the gift was made six to seven years before death, tax is reduced by 80%.
There are a few exemptions from IHT:
- Unlimited transfers between spouses and civil partners;
- Gifts on marriage with fixed amounts dependent upon who is making the gift, the maximum gift being £5,000;
- The first £3,000 of lifetime gifts in any tax year;
- Gifts out of surplus income – we advise that records are maintained to show the gifts are from income, as opposed to capital;
- Small gifts of £250 or less to each individual per annum;
- Gifts to charities, heritage bodies and political parties.
With the increase in asset values and the freezing of allowances, it is important to take steps to minimise IHT, which basically means either giving assets away in a timely fashion or investing in assets which qualify for IHT reliefs.
Planning measures that can be considered:
- If you have surplus income, taking in to account your future living needs and requirements, make regular gifts from the income. Keep a record of the income earned in the year and your expenses to evidence the surplus income gifted, as it will not be you who picks up the queries from HMRC, but the executors of your estate.
- Make use of the seven year rule – you can give away unlimited amounts of cash or assets (although with the gift of assets, capital gains tax has to be considered – but currently CGT is charged at 20%, unless it is residential property which is charged at 28%, better than 40% IHT), known as a potentially exempt transfers and will be free from IHT provided you survive seven years from the date of the gift. The gift has to be without reservation of benefit i.e. you can’t give your home away and continue to live in it without paying a market rent. Again, any gift should be recorded to confirm the date and that it is an outright gift.
- Investing in shares which qualify for business property relief (which means no IHT). Shares qualifying under the enterprise investment scheme (EIS) or AIM listed trading companies qualify for business property relief, provided they are held for at least two years. The downside, as is generally the position with any generous tax relief, is that shares in these companies are generally more risky than shares listed on the main stock market, but EIS shares have other income tax and capital gains tax benefits.
- Pension plans – Although the tax benefits of pensions have become more restrictive, with regards to the amount that can be contributed annually and the lifetime allowance reducing to £1million in April, if the pot is passed on to a nominated beneficiary, it passes inheritance tax free. If you die before the age of 75, there will also be no income tax when the beneficiary starts to draw down the fund.
- An insurance plan can also be considered to cover the IHT tax liability. This needs to be a whole of life policy written in trust, the benefit being that it covers the liability with immediate cash, protecting the estate and preventing assets having to be sold to pay the IHT.
It is clear from HMRC’s statistics that IHT is a growth area for the Treasury. Historically, IHT has been thought of as a tax for the rich, it is now hitting middle income earners, who need to review their positions.
Should you wish to discuss any of the above, please do not hesitate to contact us.
Harbour Key Limited