31 Aug 2016
Author: Stephen Breen
The rules relating to inheritance tax are complex and it is always worth seeking expert advice. Many people in particular are, understandably, struggling to get to grips with the new main Residence Nil Rate Band which comes into effect on 6th April 2017.
Under the current inheritance tax rules, the first £325,000 of your estate is not subject to inheritance tax, whether you leave it to your partner, your children or someone else.
If you leave the whole of your estate to your partner, there is no inheritance tax liability – regardless of the size of your estate. This means that you don’t use any of your inheritance tax allowance and your partner can inherit it from you. This allows them to pass on £650,000 free from inheritance tax on their death – their own £325,000 allowance plus your unused £325,000 allowance.
If you decide to leave some of your estate to your partner and some to another person, your partner can inherit any unused part of your allowance.
The new Residence Nil Rate Band – 6th April 2017
From next April, an additional tax free allowance called the Residence Nil Rate Band will be introduced where you pass on your main residence to a direct descendant. The amount of this allowance will change between 2017 and 2020 as follows:
- £100,000 in 2017 to 2018
- £125,000 in 2018 to 2019
- £150,000 in 2019 to 2020
- £175,000 in 2020 to 2021
So in the 2017/18 tax year, you’ll be able to leave up to £425,000 including your home, free from inheritance tax. In 2018/2019, this increases to £450,000. From 2019/2010 it will be £475,000. Finally, from 2020/2021, it will be £500,000 (your regular £325,000 inheritance tax allowance plus the new £175,000 Residence Nil Rate Band allowance).
If you leave everything to your partner, as before they can inherit your unused inheritance tax allowance including the new Residence Nil Rate Band allowance. So from 2020/2021, they can inherit your unused £500,000 allowance, allowing them to leave up to a million pounds to a direct descendant, free from inheritance tax.
If the value of your estate is over £2 million after payment of liabilities, the new nil rate band will be reduced by £1 for every £2 excess value.
Q: What if I want to downsize my property before death?
If you stand to lose part or all of the new Residence Nil Rate Band by downsizing, the Government have said that the amount of allowance you would have lost will still be available – provided that certain conditions are met. These include that the downsizing occurs on or after 8 July 2015.
Q: What is a direct descendant?
- A direct descendant is a child, a grandchild, a great grandchild etc.
- A step-child, adopted child or foster child and their lineal descendants also count.
- Brothers, sisters, aunts, uncles etc are not direct descendants.
Q: What about charity payments?
Payments to registered charities are completely exempt from inheritance tax. So, for example, if you left £500,000 of your estate to charity, you would still have your full £325,000 inheritance tax allowance, plus any new Residence Nil Rate Band allowance.
Q: If I leave my money in a discretionary trust, are the beneficiaries ‘direct descendants’?
No. If you leave your home in a discretionary trust – whether it is occupied by the beneficiaries, sold prior to death under the downsizing provisions or sold by the executors with the proceeds then held in the trust – the beneficiaries of the trust are not direct descendants for the purpose of the new Residence Nil Rate Band.
However, rather than making a discretionary trust, you should consider making an Immediate Post Death Interest Trust. Legacies made to this type of trust qualify as being made to direct descendants, provided that the beneficiaries do meet the definition of a direct descent.