TIME & TIDE SERVICE:

FACTSHEET ON INHERITANCE TAX  

Death duties have been with us for centuries – once called Estate Duty, then Capital transfer Tax and now Inheritance Tax ( IHT).

Irrespective of the name, the purpose has always been the same – to raise revenue from estates. 

IHT no longer only affects the wealthy – with house prices showing a dramatic rise in the last few years, many more people will now be drawn into the “net”.  

An Estate can include the family home or a share of it, all your bank accounts, building society accounts, your investments including Income Tax and Capital Gains Tax free products such as ISA`s and Tessa’s, life policies not in trust, your jewellery, furniture, pictures, your time share in Tenerife, your car - i.e. with a few exceptions all your assets wherever situated.  

Exemptions

The Nil Rate Band

Thankfully there are exemptions and the first and most important one is: the first £275,000 of an individual’s estate (for 2005/06) is taxed at 0% and is not therefore liable to IHT. This is known as the Nil Rate Band.    

The entire estate in excess of this figure is taxed at 40%.  

For the first time ever, the Nil Rate Band has been fixed for 3 tax years:  

2005/06                 £275,000.00
2006/07                 £285,000.00
2007/08                 £300,000.00  

Note: The Nil Rate Band exemption is applicable to everyone – i.e. in the case of a married couple both parties are entitled to the exemption. 

The Spouse Exemption

No IHT is payable on assets passing during lifetime or on death from one spouse to another – there is no limit to this exemption.  

From 5th December 2005, when the Civil Partnership Act comes into effect, civil partners will be entitled to the same tax rights as married couples. Note that there is no such right for heterosexual couples living together.  For IHT purposes therefore, Civil Partners will receive a “Spousal Exemption”.  

ENSURE THAT YOUR WILL IS UP TO DATE as there are opportunities for IHT planning with this very valuable exemption.  

Annual Exemption and Small Gifts

Gifts of up to £3000 per tax year are exempt.

This exemption is per person and if not used in any tax year can be carried forward for use in one subsequent year only. An unlimited amount of smaller gifts – worth £250 or less – can also be made to any number of people, however, not to the same person who has benefited from the annual exemption.

Normal Expenditure out of Income

Regular gifts by an individual that are made out of income are exempt.

Gifts using this exemption should not affect the donor’s standard of living and should be a regular pattern of spending – the gift does not need to be made to the same person.  

If you have income surplus to your needs and do not need to sell any capital assets, then this is a very valuable tax planning opportunity.  

Gifts for the Maintenance of a Dependant

A gift of capital designed to maintain a dependent is exempt, provided payment is for:

• The maintenance of a spouse or former spouse
• The maintenance or education of a dependent child or stepchild under the age of 18 (or over 18 if in full time education.)
• Reasonable provision for the care or maintenance of a dependent relative who is unable to maintain him or herself due to disability of infirmity.  

Gifts in Consideration of Marriage

The parents of the bride and groom can each give up to £5000 to the parties to the marriage. In addition the grandparents may each give a sum of up to £2500. Anyone else may give £1000.  

Gifts to Recognised Charities and Other Bodies

Gifts to charities, political parties or gifts for the public benefit, e.g., universities, national museums, the National trust etc are also exempt.  

Potentially Exempt Transfers

These are outright gifts made during the donor’s lifetime to an individual or certain types of trusts. No tax will be payable when the gift is made since it is treated as exempt and remains so provided the donor survives at least seven years following the date of the gift.  

Should death occur between years three and seven, IHT may become payable but at a tapered rate.  

In all cases however, any increase in value from the date of the gift will be free from IHT – it is the actual date of the gift that counts. 

Chargeable Lifetime Transfers

These are gifts that do not qualify as being exempt or potentially exempt, the most common example of which is a gift into a discretionary trust.

Although chargeable, tax will only become due at a rate of 50% of the death rates, where the value of the transfer, when added to other chargeable lifetime transfers, exceeds the nil rate band and any other available exemptions.

Trusts

If the recipient of a gift is young or insufficiently responsible, the donor may wish to make the gift but keep control over it either until the beneficiary reaches a certain age, or until the donor decides the recipient is sufficiently mature, a suitable trust can be used.  

• Further reasons for a trust might include:
• Provision of monies for successive generations
• Preservation of monies which could be diluted due to divorce
• Income Tax or Capital Gains Tax mitigation
• Mitigation of IHT
• Will Trusts incorporating the discretionary trust to use both spouse exemptions, some times incorporating the family home  

Trusts are a fundamental part of IHT planning.

Lifetime Gifts

Beware of three important issues which must not be overlooked when considering making lifetime gifts:

Gifts with Reservation of Benefit

Where an individual makes a gift but continues to enjoy the benefit - for example, an income from that gift, the gift with reservation of benefit rules will apply resulting in no IHT savings have been made. If you make a gift it must be outright with no strings attached.  

Capital Gains Tax

This tax is often forgotten in IHT planning. A gift is a disposal for capital gains tax (“CGT”) purposes. When the gift is between connected persons, such as parents to grandchildren, the parents are treated as having received full market value.

If a grandparent wanted to give say 2000 Shell shares to his grandchild, these shares would be valued at the date of the gift and CGT could be payable depending on the Grandparent’s personal tax circumstances so there are two taxes to consider – IHT and CGT.  The CGT can be considerable in the case of property. Not all assets are chargeable to CGT.  

Pre-Owned Assets Tax

The Finance Act 2004 introduced a new INCOME TAX charge, called preowned assets tax (POAT) which broadly applies to the continued use of previously owned assets. This new tax is based on the value of the asset or in the case of property on its rental value.where this is in excess of £5000.

The Inland Revenue are encouraging taxpayers to unscramble certain arrangements by opting for the assets to be brought back into charge for the purposes of IHT.

It will be necessary to consider each case to see if it would be better to unscramble any arrangements by making the relevant election by 31st January 2007 or to leave matters as they are and to accept the rental and pay the Income Tax.  

Summary

There are other relief and many other pitfalls, too numerous to mention in an introduction to IHT. Before any planning is undertaken:

• Make sure you have a Will – or revisit your Will
• Be realistic – do not make tax savings your prime consideration – IHT planning is all about passing your worldly wealth to your chosen beneficiaries rather than to the Inland Revenue
• Make sure your arrangements are flexible and can adapt to changes in your circumstances.

Please ask us if you would like any further information or would like to arrange a meeting to discuss your circumstances and requirements with the Head of our Wills, Probate and Trusts Department, John Langford.

NOTE: The above is intended as a general guide for your information. It is NOT intended as a substitute for proper legal advice. Each case is different and advice cannot be given without a proper analysis of your own circumstances.

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For more information:
Office Tel: 01785 252377
Office Hours 08.45 - 5.00 Mon-Fri

TIME AND TIDE SERVICE:
Direct Line: 01785 273153

John Langford (Director) - Solicitor
Emma Kirkwood - Solicitor
Jo Begg - Legal Executive
Julie Perry - Legal Executive
Nathalie Poole - Clerk
Chris Bailey - Secretary
Claire Hawke - Secretary
Weceam Akhtar - Trainee Solicitor

Last updated by SPK on 08.01.08