UK inheritance tax can be a divisive topic but despite the strong opinions it generates, relatively few estates will pay inheritance tax. Government statistics show that in the 2019/20 tax year only 3.76% of UK deaths resulted in an inheritance tax charge. Despite the small percentage of estates within the scope of inheritance tax, the Office for Budget Responsibility predicts that UK inheritance tax will raise £7.2 billion for the exchequer in 2023/24.
There have been a number of headlines in the UK press stating that the Conservative party may seek to abolish inheritance tax in the future. In light of this, this article sets out the key concepts and principles of the current UK inheritance tax regime and how we could assist you to understand your inheritance tax exposure.
UK inheritance tax is both an “estate tax” payable on a person’s death and a “gift tax” payable in certain circumstances during a person’s lifetime. Taking each in turn:
UK inheritance tax as an estate tax:
- Inheritance tax is payable by the estates of individuals who are domiciled or deemed domiciled in the UK (meaning they have been UK tax resident in more than 15 of the previous 20 UK tax years) at the time of their death.
- Where a person is UK domiciled or deemed domiciled, inheritance tax will be charged against their worldwide assets. (For further information on domicile, please see our article “What is my domicile and why does it matter?”)
- For persons who are neither domiciled nor deemed domiciled in the UK, inheritance tax will only be payable on the value of any UK situs property held at the time of their death. The most common type of UK situs asset held by non-UK domiciliaries is UK residential property and special rules apply such that UK residential property held directly or indirectly (e.g. owned by a non-UK company) and loans used to purchase, maintain or enhance such property are within the scope of inheritance tax.
- Inheritance tax is charged at a rate of 40% (although this can be reduced to 36% in certain circumstances where large charitable donations are made).
- Inheritance tax is charged on the value of a person’s estate in excess of their available “nil rate band” and is subject to various exemptions and reliefs which may apply to reduce (or completely eliminate) an inheritance tax liability.
- Every person has a nil rate band of £325,000 allowing them to pass £325,000 free of inheritance tax to their chosen beneficiaries. Married spouses and civil partners can inherit their deceased spouse/civil partner’s unused nil rate band to give a total of £650,000 free of tax to their chosen beneficiaries. The introduction of the residence nil rate band provides an additional tax free amount of £175,000 per person where they leave their interest in the family home to direct descendants (although note the residence nil rate band is limited for those with estates worth in excess of £2m). When combined together, a married couple or civil partners may be able to pass up to £1,000,000 free of tax to their direct descendants.
- Gifts made in the 7 years prior to a person’s death may be chargeable to inheritance tax. These are known as “potentially exempt transfers” and the amount of tax charged is dependent on the duration of time elapsed between the time the gift was made and the date of death. Such gifts may also use up the nil rate band available on death.
- There are a number of exemptions and reliefs from inheritance tax. The most common exemptions and reliefs we see in practice are (i) the spouse exemption and charities exemption which, if applicable, can result in complete exemption from inheritance tax and (ii) business property relief and agricultural property relief which subject to satisfaction of certain criteria can result in a 100% or 50% relief from inheritance tax on business or agricultural assets.
UK inheritance tax as a gift tax:
- Transfers of assets to certain trusts (known as relevant property trusts) made during a person’s lifetime may be chargeable to inheritance tax when assets are added to the trust (at a rate of 20%), on the 10 year anniversary of the creation of the trust (charged at 6% of the value of the trust fund) and when capital is paid out of the trust to beneficiaries (at a maximum rate of 6% of the amount distributed). These inheritance tax liabilities (amongst other factors) have reduced the uses of trusts for UK domiciled or deemed domiciled individuals.
- Transfers of assets to companies are charged at a rate of 20%, subject to any available exemptions and reliefs and the individual’s available nil rate band.
- In both cases above, if the individual transferring the assets fails to survive for 7 years from the date of the gift, a further inheritance tax charge may apply, again subject to the individual’s available nil rate band and any available exemptions or reliefs.
How can we help you?
Application of the UK’s inheritance tax rules can be complex. We have extensive experience in advising clients on their UK inheritance tax obligations and helping to structure their assets in accordance with their wishes. We regularly assist our clients with:
1. Their UK tax and succession planning;
2. Advising them on their exposure to UK inheritance tax;
3. Advising on the availability of certain exemptions and reliefs for UK inheritance tax;
4. The preparation of Wills, codicils and letters of wishes to govern succession to their estate in accordance with their wishes; and, amongst other things,
5. HMRC enquiries, including liaising with HMRC on their behalf, representing them in meetings and if necessary, appealing an adverse decision.
Please do get in contact with us if you would like to discuss your inheritance tax position further.
This article was written by Scarlett Underwood.