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The Generation Game - How Skipping Generations Can Save Inheritance Tax

The Generation Game - How Skipping Generations Can Save Inheritance Tax

The Generation Game - How Skipping Generations Can Save Inheritance Tax

Date: October 19, 2017

We are all living longer and there is a rise in multiple generations of a family being alive at the same time, this could lead to a rise in IHT bills throughout the UK despite the introduction of allowances intended to reduce the IHT payable between generations of the same family.

For most people, making a Will to ensure that your children and grandchildren benefit from your estate is the norm however, depending on the value of your estate, leaving assets to your children and grandchildren absolutely can mean that IHT is payable.

IHT is payable when a person’s estate is valued in excess of £325,000.  Where assets are left to a surviving spouse there is no IHT payable however, assets left to others in excess of this figure will attract IHT at the rate of 40%.  This tax significantly reduces the amount the deceased intended to pass on.

The newly introduced RNRB allowance was brought in to reduce IHT payable when the principal residence of the deceased is left to their direct descendants (children and grandchildren).  This allowance is currently set at £100,000 and will increase to £175,000 by 2020.  It is, like the NRB, transferable between spouses and therefore by 2020 a couple will have a joint allowance of up to £1 million before IHT is payable.  It is important to note that the RNRB can only be claimed against the value of the deceased’s principle residence and cannot be offset against other assets.

Even making use of the available RNRB and the NRB allowances without proper lifetime planning more IHT may payable than is necessary.  Consider:

Divorced Dad with an estate of £2 million leaves everything to his single daughter when he dies in May 2020.

Usual allowances of RNRB and NRB apply (£500K total) so estate of £1.5 million subject to IHT at 40% = £600K.

Estate passing to daughter = £1.4 million

When daughter dies she has her own estate of £500K + £1.4 million from dad = £1.9 million

Again she has usual allowances of RNRB and NRB (£500K in total) so estate of £1.4 million subject to IHT at 40% = £560K

Estate passing to her single son = £1,340,000

 

Total IHT paid over 2 generations = £1,160,000.

If the father at step 1 above had left £500,000 to his grandson instead of leaving his entire estate to his daughter, then on his daughters death, that £500,000 would not be included in her estate and so a tax saving of £200,000 would occur.

Both the father and daughter could also consider utilising lifetime gifts if they felt capital was surplus to their requirements.

IHT can also be reduced through the making of gifts.  Any gifts made at least seven years before death will be removed from the deceased’s estate for IHT purposes and there will be no tax payable. 

Gifts made within 7 years of death may be subject to tax.  Care needs to be taken as to whether the gift is a Potentially Exempt Transfer or whether it is a gift with a reservation of benefit. 

If the gift is a PET after the expiry of 7 years it will not be included in the deceased’s estate.  If the gift is one with a reservation of benefit i.e. the person making the gift still benefits from it (lives in a property rent free or retains use of the gift), then it will still be included in their estate for IHT purposes.

A person can also make the following gifts to reduce their estate for IHT purposes without them being subject to payment of IHT on death:

  1. Gift of £3,000 per year to any individual (or trust), this can be carried forward for one year if required;
  2. As many gifts of up to £250 to as many people who you want (but not to the person receiving the gift in 1 above);
  3. £5,000 wedding gift to a child, reduced to £2,500 for a grandchild or great grandchild and £1,000 to any other person;
  4. Gifts to help with living costs of an ex-spouse, elderly dependant or child under 18 or in full time education;
  5. Gifts to charities and political parties; and
  6. Gifts of any amount from surplus income. These gifts must come from income only and must not reduce the capital. It is important that records are kept and that the payments are regular as to time and not necessarily as to the amount.

Dubbed the "voluntary tax", there is certainly scope to mitigate the necessity to pay IHT and to safeguard wealth for the family. What is clear is that specialist legal advice, often in tandem with an independent financial adviser, is key to ensure your personal circumstances and aspirations are considered and strategies suggested. Our specialist estate planning solicitors cover the range of our offices across Yorkshire and the Tees Valley meaning that you are never far away from one of our trusted advisers. Contact your local office today to begin your planning journey.