FOR a tax that very few people have to pay, so-called “death duties” inspire a rare degree of hostility and fear. But with the government freezing the threshold above which inheritance tax (IHT) is charged at 40 per cent, a growing number of Scots are planning ahead to ensure their beneficiaries aren’t landed with a hefty bill when they pass on.
The freeze until 2017-18 in the “nil rate band” at £325,000 (£650,000 for married couples and civil partners) was confirmed in the March Budget.
The announcement came as a nasty shock for those with assets close to the threshold, which Chancellor George Osborne had previously pledged to increase by 1 per cent in 2015-16, to £329,000.
The threshold has been stuck at £325,000 since 2009, creating a drag effect that has left many people previously outside the IHT net in danger of being pulled in.
While just a tiny minority will leave their families with an IHT charge, the uncertainty means more people are seeking to mitigate the tax.
This can be done in several perfectly legitimate ways, as outlined below. But experts warn that efforts to mitigate IHT can be hindered by confusion around how it works.
For example, it’s easy to assume the £325,000 threshold means you have to be rich to be hit by IHT. The house price increases of the past 15 to 20 years mean that’s no longer true, yet many people wrongly believe their family home is excluded from IHT calculations.
Peter Gouw, tax partner at BDO in Glasgow, said: “If you have significant wealth, and are unwilling to give almost all your non-businesses assets away in your lifetime, it is likely that your estate will end up suffering some IHT.
“The best you can do is to strike a balance between planning to minimise IHT for your family and keeping enough funds to ensure you have a comfortable retirement.”
Here we pick out some of the most common questions about IHT and separate the myths from the reality.
Q: Can I leave money to immediate family members without it being IHT chargeable?
A: No, only your spouse or civil partner. Even transfers to your children are treated as taxable, although there are ways around this. There are instances where the spousal exemption doesn’t apply, such as where they are not UK domiciled at the date of your death.
Yvonne Evans, associate at Anderson Strathern in Edinburgh, said: “Spouses and civil partners do have a great advantage over other family relations (and cohabitants) when it comes to inheritance tax. You can leave any amount of money to your spouse or civil partner on your death, and no IHT will be paid.”
Since 2008, it’s been possible to transfer to the surviving spouse or civil partner any part of the nil rate band that wasn’t used upon the death.
Q: I’ve lived with my partner for most of my adult life but we’ve never married. Do we have no extra rights when it comes to avoiding IHT?
A: You have only the non-transferable nil rate band of £325,000 if you’re not married or in a civil partnership, even if you are cohabiting and both own the property.
Getting married is probably the only truly effective way of getting around that, according to Evans. “It probably seems very unromantic to suggest that people should ‘put a ring on it’ for legal and tax reasons,” she said.
“But it comes down to ensuring the survivor’s financial security. Legalising the relationship gives the survivor rights to certain state benefits, pension provision and advantageous tax treatment.”
Q: Surely the family home doesn’t count for IHT purposes.
A: Yes it does, and the house price increases of the past 20 years mean people are often shocked to find their estate will be liable to IHT. You can give away property, but you need to live for another seven years for it to fall out of your estate for IHT calculations.
Gouw said: “Unlike capital gains tax, there is no specific IHT exemption for the value of your home. In many cases, when someone dies the value of their home either passes to a spouse, so it is exempted, or the net value falls below the nil rate band.”
You also need to be careful that if you give it away you don’t retain an interest, Evans warned. “For example, if you give away a house but you continue to live there, that is a ‘gift with reservation of benefit’ and the house would still be charged to IHT on your death,” she said.
Q: How much money can I give to family members and friends while I’m alive without it being included in the estate for IHT purposes?
A: All gifts made more than seven years before you die are IHT-free. In addition, you can make cash gifts of up to £3,000 a year, an exemption that can be carried forward a year if it’s not used. Smaller amounts of up to £250 can be gifted as often as you like to anyone, under the small gifts exemption.
Parents can give children up to £5,000 as a wedding or civil partnership gift and grandparents can gift up to £2,500. These limits have remained unchanged since IHT was first introduced, vastly diminishing their value over time.
Q: Can I use charity-giving to reduce my taxable estate?
A: This is one of the most effective and simple ways to mitigate IHT, especially since a rule introduced last year allowed individuals to leave 10 per cent of their estate to charity to claim a reduced IHT rate of 36 per cent. Crucially, there’s no limit to how much you can leave to charity free of tax.
“Although this measure does not necessarily mean that non-charitable beneficiaries will receive any more from your estate, it does at least encourage people to give to charity and reduce their overall IHT liability,” said Gouw.