It’s common for individuals to transfer valuable assets to another individual, such as family or trusts, but how these assets are financed can make a difference to how they are treated in terms of inheritance tax. Inheritance tax is essentially the tax payable of the decreased individual on estates which include property or possessions, and this blog details the different elements that need to be taken into consideration.

When Does Inheritance Tax Arise?

The rationale behind inheritance tax is attributed to transactions classified as:

Lifetime Transfers – a gift to another individual or transfer to a trust.

Death Estate  gifts transferred according to the will of death.

Who Has to Pay Inheritance Tax?

Inheritance tax is typically paid by the executor if the transfer is passed on through a will. The recipient of the transfer is paid after any inheritance tax liability has been accounted for. Although the recipient may not pay tax on what they inherit, a tax obligation still exists on associated assets such as rental income they gain as the result of the transfer. If there is no executor appointed by the decreased individual in the will then the inheritance tax is charged by the administrator of the estate.

Inheritance tax rising.

What rate is inheritance tax charged at?

Inheritance tax is charged on the property and assets of a deceased individual based on flat rate of 40% excess than the nil band rate which for 2025 is above the threshold of £325,000. The threshold of £325,000 changes to £500,000 if the transfer is made to family relatives such as children. Even if the inheritance tax sums up to below £325,000 it still needs to be disclosed to HMRC.

Chargeable lifetime transfer is a gift made by the individual to the trust making it immediately taxable, and the amount of tax that results depends on whether the lifetime tax is paid by the donor or the trust. If the tax is paid by the donor, 25% is charged, and 20% is charged if tax is paid by the trust.

When does inheritance tax have to be paid?

Inheritance tax provision is to be paid by the end of a sixth month period after the individual’s death; if the tax is not settled within this period then HMRC will charge interest.

Paying the inheritance tax provision before the end of the sixth month period after the individual’s death.

Transfer value

Transfer value in inheritance tax terminology is simply the amount of the chargeable estate and possessions which can sometimes be at market price.

The value of the transfer is measured on the assets diminution value which is the loss to the donor’s estate and not the amount gained by the done. This transfer is sometimes referred to as disposition which indicates that the value of the estate is lower than it was before the disposition occurred.

Another factor that reduces the valuation of the estate is when the donor pays inheritance tax in relation to the transfer, making the overall value of the transfer equal to disposition and relevant inheritance tax.

Inheritance tax planning

Below considers factors that should be taken into consideration to minimise inheritance tax liability in the event of an individuals death.

Small gift – the exemption is up to £250 per donee but it cannot be extended to larger gifts or gifts to trusts. Another exception is a gift in consideration of marriage in which the first £5000 from parent is exempt, first £2500 by a lineal ancestor, and £1000 by another person. For normal expenditure such as regular payments, the annual exemption is the first £3000 and the unused can be carried forward for one year after it expires.

Pensions  classified as the most tax efficient way to pass on wealth because, if the donor dies before the age of 75, the assets are passed on to the donee who does not have to pay any tax, and if the donor dies after the age of 75 then for the donee any future withdrawals will be charged based on their marginal income tax rate.

Specialist investments – some investments can be subject to business relief, enabling them to be exempt from inheritance tax after being held for more than two years.

The seven year inheritance tax tapper relief rule

The seven-year rule is applicable when the transferor lives for at least seven years, ultimately making the inheritance tax free. Over the span of seven years, the amount of inheritance tax is reduced, and this is referred to as tapper relief. The amount of tax paid on gifts vary according to the time period they are given: 

       0-3 years tax payable of 40%

       3-4 years tax payable of 32%

       4-5 years tax payable of 24%

       5-6 years tax payable of 16%

       6-7 years tax payable of 8%

       7 years and more tax payable of 0%

Tax planning to minimise inheritance tax liability.

Are there any exempt transfers?

Potentially exempt transfers are any gifts which are exempt and transferred between individuals or if the transferor services occur after seven years, making it again exempt. These include:

       Gifts to UK charities

       Gifts for national purposes

       Gifts between spouses, or partners in civil partnership

       Payments for family maintenance

       Assets below the threshold of £325,000

Relating to tax planning, if a chargeable lifetime transfer and potentially exempt transfers are made in the same year then chargeable lifetime transfers are charged first regarding tax. Also, annual exemptions are first applied to whichever gift or transfer has been made first and if the transferor survives for seven years then the potentially exempt transfer will not become chargeable, meaning the annual exemption will therefore be wasted.

Changes in 2024 that affect inheritance tax

Main Residence Allowance: In 2024, the Main Residence Allowance has increased by £175,000, allowing some individuals to avoid inheritance tax on the first £500,000 of their estate. However, this exemption applies only if the estate is valued at less than £2.4 million.

 

Basic Nil Band Rate: As of April 2024, the Basic Nil Band Rate remains at £325,000.

 

Inheritance Tax: Inheritance tax is levied at a flat rate of 40% on the property and assets of a deceased individual exceeding the nil band rate threshold. For 2024, this threshold is £325,000. However, if assets are transferred to family relatives like children, the threshold increases to £500,000. Even if the inheritance tax liability is below £325,000, it must still be reported to HMRC.

 

Chargeable Lifetime Transfer: A chargeable lifetime transfer involves gifting assets to a trust, making it immediately taxable. The tax rate depends on whether the donor or the trust pays. If paid by the donor, the rate is 25%, while if paid by the trust, it is 20%.

 

Overall, Inheritance Tax entails complicity but this blog is a form of understanding the principles behind inheritance tax to form the basis of planning with the aim to reduce the tax liability for the beneficiaries. For further assistance or enquires, call us on +44 (0)1213681277 or alternatively email info@taxcare.org.uk.

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