“I am interested in exploring ways to mitigate my Inheritance Tax position…”
Our Tax, Legal and Financial Planning teams work together to provide complete and comprehensive advice around an IHT case study.
“I am interested in exploring ways to mitigate my Inheritance Tax position. My main assets are my family home, my pension, cash and investments including ISAs and a small classic car collection. I have also recently inherited £500,000 in cash from my late mother.”
If the value of your estate when you die exceeds the Nil Rate Band (“NRB”) (currently £325,000) Inheritance Tax (“IHT”) is payable at 40% on the excess when left to a non-exempt beneficiary.
When leaving your home to a qualifying descendent upon your death your estate could benefit from an additional Residential NRB (“RNRB”), up to £175,000 in 2020/21, against the value of your home. This is tapered where the value of your estate exceeds £2 million – in this situation you could look to take steps to bring your estate’s value under the threshold whether through lifetime estate planning or through changing your Will. Where you have survived a spouse or civil partner, there are potentially transferrable NRBs and RNRBs that could be utilised.
You could reduce the value of your estate by making a gift to an individual or into trust. If you survive 7 years of this it is not treated as forming part of your estate on your death – watch out though as a gift to a trust is is immediately chargeable to IHT, so could result in a tax charge if the NRB is exceeded, although this tax may be tapered if it was made more than 3 years before death. Smaller exempt gifts can be made each year.
We would recommend use of a trust where you are looking to pass on value but wish to retain control over use of assets. This is something our legal team can draw up to your specifications.
Unfortunately, classic cars are not exempt from IHT, they will be classed as part of the estate. A potential way to mitigate this would be for the owner to donate the car as a gift to a beneficiary before their death. Care should however be taken that the owner does not continue to enjoy use of the vehicle as this could be classed as a gift with reservation, for which a tax charge would be payable. Planning around this however may be possible.
Be aware of non-cash gifts as these could result in a capital gains tax liability – classic cars are however exempt from CGT.
As you have recently inherited money from your late mother, then you may wish to enter into a Deed of Variation to redirect that inheritance to other individuals. Normally, if you make a gift then you would need to survive for seven years for it to fall outside of your estate for inheritance tax purposes. However, the redirection under the Variation is treated, for inheritance tax purposes, as if your late mother made the gift, not you. This means you would not need to survive for seven years for the gift to fall outside of your estate.
The Deed of Variation must be executed within two years of death in order to have the desired tax effect and there are other conditions to be met for it to be valid. It can also be used to redirect assets into trust, albeit there are slightly different tax consequences that should be carefully considered.
Before undertaking actions to mitigate an Inheritance Tax position, it is important to firstly understand exactly what assets held are subject to Inheritance Tax (“IHT”), who you wish the recipient to be on the event of your death and what implications certain actions could have on the final tax position.
Pension – A pension can be a very efficient estate planning tool, with the benefits potentially being free of IHT dependent on; the exact type of policy, who it would be left to, whether the policyholder dies before or after age 75 and whether or not they had accessed any of the benefits.
It could therefore be beneficial to use some of the cash held for making further pension contributions. Several considerations should be given though, as once made, any accumulated benefits will not usually be accessible until the policyholder reaches age 55, subject to policy conditions. Furthermore, there are annual and lifetime allowances which you need to be mindful of.
ISAs – Unless left to a surviving spouse or civil partner, ISAs will ordinarily be subject to IHT. Spouses and civil partners also benefit from a one-off additional ISA allowance equal to the amount formerly saved in these tax-free accounts, on top of their own ISA allowance. The favourable tax treatment of ISAs means that by making the full subscription of £20,000 (2019/20 tax year). The current maximum annual subscription you can make to either a Cash or Stocks & Shares ISA is £20,000 (2019/20) tax year.
Cash & Investments – The exact IHT treatment of investments held can be complex depending on the specific investments held and professional advice should be sought. Appropriateness of different types of investment will also depend on a particular individual’s personal situation and appetite for risk. Be aware that Venture Capital Trusts (“VCT”) do not ordinarily qualify for IHT relief, even though their underlying holdings might. This is because when investing in a VCT, you acquire share in the VCT plc, not in its underlying holdings.
On the other hand, Enterprise Investment Scheme (“EIS”) investments can potentially allow investors to defer Capital Gains Tax on other investments and depending on exact circumstances, reduce the value of an individual’s estate for inheritance tax purposes. EIS investments can provide 100% exemption from IHT because of Business Property Relief.
The majority of other traditional investments and cash will not automatically benefit from any IHT exemption, however, do seek professional advice as this can be dependent on the type of investment, who and where held.
Life Assurance – Despite all best efforts in some instances there is sometimes still an IHT charge payable. Life policies can sometimes be helpful in these instances to pay out a lump sum upon death, which if written under a suitable Trust could fall outside of the estate. When making lifetime gifts, policies could be set up deliberately to cover any IHT charge. They could also potentially have the added benefit that should probate be required with the deceased’s estate, the accessing of these funds is not delayed by this.
The content of this article is for information only and does not constitute formal financial advice.
This material is for general information only and does not constitute investment, tax, legal or other forms of advice. You should not rely on this information to make, or refrain from making, any decisions. Always obtain independent, professional advice for your own particular situation.
For more information and advice, please contact us via email or call +44 (0)330 124 1399.
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