If you think your estate may currently have an inheritance tax liability, it is likely that you will be aware of the basics rules and concepts for estate and inheritance planning. To briefly recap: an individual has a ‘nil rate band’ (NRB) of £325,000 and if the net value of their estate is below this figure, no Inheritance Tax (IHT) is payable. Nil Rate Bands are transferrable, potentially allowing the survivor to use both their own and their spouse’s NRB when they die. The combined Nil Rate Band of £650,000 could then be offset against the total net value of the survivor’s estate and, as with an individual, if the net value of the estate remains under £650,000, then no IHT is payable. Should the value of the estate be in excess of the NRB (combined or otherwise), then an IHT rate of 40% is payable on the excess.
Practically, estate planning is much more complicated than outlined above and professional advice should be sought when tackling an Inheritance Tax Issue.
Here are a few things to consider:
1. Place Life Assurance policies in Trust (if not required for loan repayment).
Should the ‘Life Assured’ (usually the policyholder) of a life assurance plan pass away then the value of the plan is either paid into the deceased’s estate or if previously arranged, into a trust. Generally writing a plan in trust should be limited to whole of life or term assurance plans, but consideration can be given to placing endowment policies in trust too if the in-built savings are not required by the policy owner.
It is common for life assurance policies to have a sum assured of hundreds of thousands of pounds. Should the plan payout and not be held in trust then proceeds to fall into the estate. This could easily use up some, or all, of a Nil Rate Band. Check existing policies are held in trust and that the beneficiaries are all up-to-date.
2. Use all allowable exemptions
There is usually no Inheritance Tax to pay on small gifts but more substantial gifts can form part of your estate. There a number of small gifts that can be made each year which don’t form part of an estate; these are:
- An annual gift allowance of £3,000 per person. An unused allowance can be carried forward for one year only.
- Wedding gifts: £5,000 for a child; £2,500 for a Grandchild; £1,000 for anybody else.
- Small gifts up to £250 per person (recipient). You cannot use the annual exemption on the same person.
- Gifts to charity or political parties.
3. Make gifts out of disposable income
This is a grey area but provided the gifts that are made do not affect your standard of living then they can be of any value and made to anybody you wish. The key here is to be organised with your income and expenditure. Be aware of what is spent each month and what is left over. In theory, the surplus that remains after all expenses can be gifted away.
To fall under this rule, generally, gifts should be regular. Unhelpfully, there isn’t a complete definition of what ‘regular’ means in this sense, but if a pattern can be evidenced over a period of time, ideally a number of years, then these gifts are more likely to qualify under this process.
It is important that gifts are made from surplus income i.e employment/pension income, rental income, investment income. In the case of investment income, check that this is actually classed as ‘income’ as opposed to ‘return of capital’.
It could be wise to seek professional advice about this process. It is useful to maintain a dialogue with HM Revenue & Customs and gifts can be registered with them in advance.
4. Save into Personal Pensions
Pensions rules are notoriously complicated (we touch on a few in a previous article) and beyond the scope of this article. Here is a strategy which could be useful but is dependent on a number of other factors and professional advice should certainly be sought before following this.
A common misconception with pension saving is that there is a maximum amount that can be saved into a plan each year; this is not true. Any amount can be saved into a pension, but there are limits to how much tax relief can be provided and relief is no longer added once age 75 is reached. However, an individual can continue saving into a pension beyond their 75th birthday. Therefore, an individual may already have and can continue to build-up, a fund which is outside their estate.
Care should be taken here because there may be taxes to pay on the death of the policyholder, levied both on the deceased’s fund and the beneficiary(ies) of the pension. This could mitigate the usefulness of this strategy, but in some circumstances, the tax rate applied can be much lower than the 40% rate of Inheritance Tax.
5. Review your Investment Strategy
Inflation will both ‘help’ and ‘hinder’ your estate planning strategy, meaning some assets, namely cash, may reduce in value over time; and others like property, jewellery, and art may increase in value. The forces at work here will continue with or without any input or intervention from you. Stocks and Shares, on the other hand, can target a number of strategies; two of these might be capital growth and/or income generation. For those whom already have an inheritance tax liability, pursuing capital growth may be counter-productive, given that this could increase the value of an estate. Should a portfolio target and distribute income then this could, in turn, be gifted from the estate under gifts out of normal expenditure rules, or used to contribute to general living expenses.
Should an income strategy be pursued, the portfolio may not grow as quickly (or at all), but this could be welcome in some circumstances.
Bear in mind that it may be wise to plan for the provision of care in old age, so be cautious when giving money away so that you don’t leave yourself in a position where you cannot afford to use a care facility that you might prefer. As with all situations, it is wise to discuss these with your professional advisers and your family before committing yourself to substantial gifts.
If you would like to know more or discuss your situation, please feel free to contact us.
This article is distributed for information purposes and should not be considered investment advice or an offer of any security for sale. This article contains the opinions of the author but not necessarily Ermin Fosse and does not represent a recommendation of any particular security, strategy or investment product. The information contained herein has been obtained from sources believed to be reliable but is not guaranteed. It is not a promotion of Ermin Fosse’s services.
Please contact us before you invest/disinvest. The past is not indicative of future results. When you invest you may not get back what you put in. Errors and omissions excepted.