12 Days of Christmas - Day 7, Inheritance tax planning

On the seventh day of Christmas

Cura gave to me

IHT planning

Inheritance tax (IHT) can seem daunting, something not to worry about as it will be your kids’ problem, or it can really play on people’s minds and make them worry.

I want to start this piece by saying that we are not specialists in calculating inheritance tax and doing all the fanciness that comes with full financial planning, to maximise the value of your estate. But, we are specialists at protecting your family from the financial costs of inheritance tax.

IHT is simply a tax that is paid to the government, that is based upon the value of a person’s estate upon their death. The estate can cover cover lots of things like:

• Your house. 
• Your car.
• Any savings that you have.
• Your TV.
• Bitcoin investments.
• You name it, if you own it and it’s something that has a monetary value, it’s part of your estate.
  
  

Though not every person’s estate will qualify for the tax, it is good to know about it just in case. You would be surprised at how quickly you can go into the IHT bracket, especially if the property values in your area start shooting up.

Inheritance Tax Limits

There are times where the tax won’t apply. Everyone has a nil rate band, which is the amount of your estate which is exempt from any inheritance tax. The nil rate band is currently £325,000 per person. 

When the value of your estate is above £325,000, any amount above that will be taxed at 40%. 

For example, if the value of your estate was £400,000, you would be taxed 40% of £75,000; £400,000 – £325,000. 

There is no inheritance tax between married couples. So if one person in a couple dies, their nil rate band passes to their spouse. This means that the surviving partner then has a nil rate band of £650,000; £325,000 + £325,000.

Increasing Inheritance Tax Limits

You might be able to increase your non-taxable amount if you own the property that you live in and intend to give it to your children or grandchildren. This is known as the residence nil rate band (RNRB).

The residence nil rate band is currently a maximum of up to £175,000, on your main residential property. This extra allowance is added to the value of the whole estate, so the non-taxable estate changes from £325,000 to £500,000.

If you have a property that is valued at £145,000 then the allowance becomes £470,000; £325,000 + £145,000.

Many people also chose to give parts of their estate as a gift, which can reduce the overall size of their estate. This can really suit some people, but there does need to be caution. You can currently gift up to £3,000 each year from your estate and there is no taxation on this. But if you gift more than this amount there is taxation due on the value over £3,000 for the next seven years, and if you die whoever received this gift must pay the government some tax.

It’s also possible to reduce your inheritance tax down from 40%, if at least 10% of your estate is donated to charity.

This section has given you a very brief overview of some options that can alter your inheritance tax limits, but it should not be considered as advice in any way. It is essential that you speak with a full financial adviser for full inheritance tax planning. 

Who Deals with Inheritance Tax?

Whoever you have trusted with your estate, the executor, will be responsible for paying the tax to HMRC. They will use funds from your estate to pay the tax that is due, which will then enable your loved ones to access your estate. 

The difficulty that some people can face is that the best way to pay the tax is through cash assets, and not everyone has this amount of money readily to hand. This is where things like life insurance come into play.

How Can Life Insurance Help?

Inheritance tax planning can be essential, but unfortunately it is often left too late and people  don’t realise how useful protection insurance can be. 

Protection insurance can be used to pay the inheritance tax bill, so that the value of the estate is not reduced by the tax. With life insurance the general rule of thumb is, the younger and healthier you are, the more value for money it is. A lot of people consider life insurance for IHT planning when they are in their 60s or above, when the reality of the tax becomes more real and the estate value has built up.

There is nothing wrong with this, but it’s just important to look at this type of protection as soon as possible. There is also a point where the insurers that can offer whole of life insurance policies stop accepting applications, which can potentially be in the early to mid 80s. 

For inheritance tax planning you want whole of life cover. This does what it says, it lasts the whole of your life, the end date is the day that you die. For a single person they would need to a whole of life policy that is equal to the IHT liability. For a couple, they would want a joint life second death policy, so that it kicks in once both people have passed away. With this option no money is paid out when the first person passes away.

Things are slightly different when you are protecting a gift. For this situation there are what is known as gift inter vivos policies, that specifically follow the tax liability over the 7 years following the gifting. These are term policies so they have set end dates. You don’t have to have this specific policy, it’s possible to cover the tax liability with multiple smaller policies and access multiplan discounts with some insurers. This is a bit more complicated. The policies would be set up this way:

• A policy for 20% of the full 40% gift tax lasting 7 years.
• A policy for 20% of the full 40% gift tax lasting 6 years.
• A policy for 20% of the full 40% gift tax lasting 5 years.
• A policy for 20% of the full 40% gift tax lasting 4 years.
• A policy for 20% of the full 40% gift tax lasting 3 years.
  
  

In a different way to whole of life policies, for a gift, it is essential that the policy is arranged on a joint life first death basis for a couple. This is because the gift tax liability is triggered on the first person’s death.

There is quite a lot to think about when it comes to this planning and it really is a good idea to speak with someone that is familiar on how to do this. If you are worried about inheritance tax, the last thing that you want to do is arrange something that isn’t going to do what you want it to.

Trusts Are Essential

When arranging life insurance policies you will hopefully hear advisers talking to you about Trusts. Some people see this as a bit of a faff, or they don’t want to pay an extra cost for doing them. We complete trusts forms for you and do not charge for this service, this is because we truly feel that these documents are essential parts of the life insurance process.

A trust ringfences the payout from a life insurance policy from the estate, without it the insurance you have set up to help soften the blow of the tax, will actually be added to your estate and increase it!

Some insurers allow us to do the trusts online and it really can be very simple to do. Basically if you have a life insurance policy, no matter how big or small, if it’s for inheritance tax purposes or not, get it into trust. As the money does not go into the estate your loved ones don’t need to wait for probate to clear before they get the money. It’s a small form that can save a lot of heartache.