27 Oct 2016
Author: Stephen Breen
Earlier this month the Housing Minister Gavin Barwell asked pensioners to skip a generation and leave both their home and savings to their grandchildren to give them a helping hand on the housing ladder.
Mr Barwell said his own mother will be leaving her estate and home worth £750,000 to his three sons and two nephews. He said that skipping a generation could ease the housing crisis, and could combat what he called ‘inter-generational unfairness’.
If you decided to leave your home and savings to your grandchildren, your gift would of course be subject to inheritance tax.
Inheritance tax basics
Everyone has an inheritance tax allowance of £325,00, called the ‘nil rate band’. If your estate is worth more than this, inheritance tax will be due at 40% of the excess value. However, if you leave everything to your spouse or civil partner, no inheritance tax is payable. Additionally, as you haven’t used your inheritance tax allowance, this passes to your spouse or civil partner who can then leave up to £650,000 free from inheritance tax.
Typically couples leave everything first to each other, and then to the children. However, if your children already own their own home and are financially secure, the surviving spouse or civil partner could leave the bulk of their estate directly to their grandchildren, avoiding the inheritance tax liability their children would otherwise incur when passing it on.
If the surviving spouse or civil partner’s estate is worth more than £650,000 (assuming they have inherited your full nil rate band allowance), inheritance tax would still be due on the excess, at 40%. From 6th April 2017, the Government have promised an additional allowance will be introduced over a four year period. By the 2020/21 tax year, families will be able to leave properties worth up to £1 million free from inheritance tax. This could, of course, be changed or scrapped by future governments.
One consideration in the above scenario is what happens if your partner remarries after your death. The Will they have made whilst they were with you will no longer be valid. If they do not make a new Will, their new partner will stand to inherit the first £250,000 of their estate (which now includes your assets) under the laws of intestacy – with the rest being split, 50% to the new partner and 50% to the children. If they do make a new Will, chances are they will leave everything to their new spouse or civil partner first. If they die before their new spouse or civil partner, there is nothing binding the new partner to leave anything to the children/grandchildren of your marriage.
An option that avoids this is to leave your share of the assets to your spouse/civil partner in trust for use during their lifetime. They can occupy the family home, move home if they want to, and benefit from any savings or investments you have. After their death, your assets can pass on to your choice of beneficiaries – the children, or grandchildren if you prefer. A further benefit of this arrangement is that if your partner needs care after your death, the Local Authority cannot use your share of the family assets to pay for your partner’s care fees.
Gifting your home
If you gift your home now to your grandchildren but continue to live in it, this does not qualify as a genuine transfer for inheritance tax purposes. The gift is treated as a “gift with reservation of benefit” which means, for inheritance tax purposes, it is treated as if it is still part of your estate.
If you pay rent at the market rate, no inheritance tax will be due – provided that you survive for seven years after making the gift. However, your grandchildren will be taxed on the rental profits they make. You should also consider what would happen if your grandchild divorces, dies or is made bankrupt – in which case you may lose your home.
If you make the gift and you don’t continue to live in the property, bear in mind that you may be liable for capital gains tax if the property has increased in value – and stamp duty may also be payable. If you don’t survive for seven years after gifting the property, inheritance tax is due – this is payable at a tapered rate depending how much time has passed between you making the gift and your death.
Generally when you make a gift to someone, you have to survive for seven years – otherwise the value of the gift counts as part of your estate for inheritance tax purposes.
However, you can make various gifts to reduce the value of your estate during your lifetime so that there is less inheritance tax to pay, and these will be ignored for inheritance tax purposes. These are known as exempted gifts.
Each tax year you can give away £3,000 worth of gifts, known as your ‘annual exemption’. You can carry your unused annual exemption forward for one year. In effect this allows you to reduce your assets by up to £24,000 before your death, without any inheritance tax liability.
You can also give wedding or civil ceremony gifts of up to £1,000 per person, £5,000 per child or £2,500 per grandchild.
Additionally, you can give normal gifts out of your income provided that you can maintain your standard of living after the gift has been made.
You can further help another person – such as an ex-spouse, an elderly dependent or a child under 18 or in full-time education – with their living costs on a regular basis.
You can also gift up to £250 as many times during the tax year as you like, as long as you haven’t used another exemption on the recipient.
Finally, you can make gifts to charities and political parties. There’s no limit on how much you can give to charity and if you give at least 10% or more of the ‘net value’ of your estate you can reduce your Inheritance Tax liability on some of your assets from 40% to 36%.
Deed of variation
If your partner or a relative has died within the last two years and their Will was not set up in a tax efficient way, you can change it to reduce the amount of Inheritance or Capital Gains Tax payable, using a Deed of Variation. Certain conditions have to be met – the main one being that any beneficiaries who will be left worse off as a result of the change must agree.
Speak to our Later Life Planning team about reducing your inheritance tax liability.