Figures out today show that HMRC raked in another £3.5 billion in inheritance tax receipts in the six months to September 2022. This is £400 million more than in the same period last year and continues the upward trend.
While hopes were raised in the Conservative leadership contest, after the recent whirlwind of announcements and U-turns cutting IHT is probably at the very bottom of the government’s list of priorities.
Alex Davies, CEO and Founder of Wealth Club said: “The government’s inheritance tax take seems to be increasing relentlessly, largely thanks to the steady increase in house prices in recent years pushing more family in the IHT danger zone. With all that’s going on in Downing Street, we can’t see that there is any chance that this money-spinner will be reduced or abolished any time soon.
The OBR has already predicted that next year IHT will bring in £6.7bn and while only 1 in 25 estates currently pay this tax, for those that are picking up the tab, we think the average bill could reach £266,000 for the current tax year.
The increase is being driven by soaring house prices and years of frozen allowances. Rampant inflation will magnify the effect of freezing allowances in the years ahead. Without some review of the rules, more and more families are going to find themselves hit by death duties they might not expect.
The good news is that with some careful planning there are lots of perfectly legitimate ways you can eliminate or keep IHT bills to the minimum, so more of your wealth is passed on to your loved ones rather than being syphoned off by the taxman.”
How inheritance tax is calculated
Inheritance tax (IHT) of 40% is usually chargeable if one’s assets exceed a certain threshold, after deducting any liabilities, exemptions and reliefs.
The threshold (nil rate band) has been £325,000 per single person since 6 April 2009 – and will stay frozen at this level up to and including 2025-26.
There is an additional transferrable main residence nil rate band of £175,000 available when passing the family home down to children or other direct descendants.
Any unused threshold may be transferred to a surviving spouse or civil partner. So, a couple could currently potentially pass on up to £1 million before IHT might apply.
Key IHT stats
- One in every 25 estates pay inheritance tax, but the freeze on inheritance tax thresholds, paired with inflation and decades of house price increases is bringing more and more into the taxman’s sights.
- Wealth Club calculations suggest the average inheritance tax bill could increase to just over £266,000 in the current tax year. This is a 27% increase from the £209,000 average paid just three years ago.
- While you can pass on money IHT free to your spouse or civil partner, the estate could still be subject to IHT on their death though they may be able to make use of your pass-on allowance.
- The main threshold is the nil-rate band, enabling up to £325,000 of an estate to be passed on without having to pay any IHT. This has been unchanged since April 2009.
- There is also a Residence Nil Rate band worth £175,000 which allows most people to pass on a family home more tax efficiently to direct descendants, although this tapers for estates over £2 million and is not available at all for estates worth over £2.35 million.
“The good news is that there are still lots of perfectly legitimate and sensible ways to pass on money free of inheritance tax to your heirs.”
- Make a will
Making a will is the first step you should take. Without it, your estate will be shared according to a set of pre-determined rules. That means the taxman might end up with more than its fair share.
- Use your gift allowances
Every year you can give up to £3,000 away tax free. This is known as the annual exemption. If you didn’t use it last year, you can combine it and pass on £6,000. You can also give up to £250 each year to however many people you wish (but only one gift per recipient per year) or make a wedding gift of up to £5,000 to your child; up to £2,500 to your grandchild; up to £2,500 to your spouse or civil partner to be and £1,000 to anyone else. Beyond these allowances, you can pass on as much as you like IHT free. So long as you live for at least seven years after giving money away, there will be no IHT to pay.
- Make regular gifts
You can make regular gifts from your income. These gifts are immediately IHT free (no need to wait for seven years) and there’s no cap on how much you can give away, provided you can demonstrate your standard of living is not affected.
- Leave a legacy – give to charity
If you leave at least 10% of your net estate to a charity or a few other organisations, you may be able to get a discount on the IHT rate – 36% instead of 40% – on the rest of your estate.[1]
- Use your pension allowance
Pensions are not usually subject to IHT for those under 75 years old – they can be passed on tax efficiently and, in some cases, even tax free. If you have any pension allowance left, make use of it.
- Set up a trust
Trusts have traditionally been a staple of IHT planning. They can mean money falls outside an estate if you live for at least seven years after establishing the trust. The related taxes and laws are complicated – you should seek specialist advice if you’re considering this.
- Invest in companies qualifying for Business Property Relief (BPR)
If you own or invest in a business that qualifies for Business Property Relief – the majority of private companies and some AIM-quoted companies do – you can benefit from full IHT relief. You must be a shareholder for at least two years and still be on death though.
- Invest in an AIM IHT ISA
ISAs are tax free during your lifetime but when you die, or when your spouse dies if later, they could be subject to 40% IHT. An increasingly popular way of mitigating IHT on an ISA is to invest in certain AIM quoted companies which qualify for BPR. You must hold the shares for at least two years and if you still hold them on death you could potentially pass them on without a penny due in inheritance tax.
- Back smaller British businesses
The Enterprise Investment Scheme (EIS) and the Seed Enterprise Investment Scheme (SEIS) offer a generous set of tax reliefs. For instance, SEIS offers up to 50% income tax and capital gains tax reliefs, plus loss relief if the investment doesn’t work out. But EIS and SEIS investments also qualify for BPR, so could be passed on free of IHT.
- Invest in commercial forestry
This is an underused option for experienced investors. Pension funds and institutions have long ploughed money into forestry. The Church Commissioners has a forestry portfolio worth £400 million. Commercial forest investments should be free of IHT if held for at least two years and on death.
You should also benefit from capital appreciation in the value of the trees (and the land they are on) and from any income produced by harvesting the trees and selling the timber (this income may also be tax free).
- Spend it
One sure-fire way to keep your wealth away from the taxman’s hands is to spend it.