Inheritance Tax (IHT) in the UK can often be onerous for spouses, individual recipients of the estate and families that are left with a large tax exposure after the death of the estate holder. To minimize the tax, currently standing at a 40% marginal tax rate, you will need to plan for your estate transfer by actively engaging in certain tax relief schemes to help you minimize the impact on your estate and your family. The following will assist to better understand your tax risks and explains a number of tax relief measures that help to mitigate exposure to IHT.
The amount of revenue that the UK Government derives from Inheritance Tax is growing all the time with significantly more estates being liable to the Tax. If your estate is worth more than £325,000, your beneficiaries will be liable to pay a 40% taxation on the entire amount above that threshold.
As the Government becomes aware of the growing value of this tax, they are focusing more on removing options open to people to reduce this burden. Examples of this are the recent changes to trust legislation.
There are never the less a number of ways in which you can reduce the impact of IHT and it is worth trying to take advantage of as many of them as you can, to ensure you pass on as much of your estate as possible.
Small Tax Relief Measures
Gifting it away
One of the easiest ways to start minimising your tax burden is by giving away gifts to your loved ones during your lifetime. There are a number of gifts that you can make without incurring a tax liability. You are able to make as many small gifts of less than £250 as you like and in addition you can gift a further £3,000 per annum. You can also make unlimited gifts to certain organisations such as charities or political parties.
If you make larger gifts these may either be a chargeable life time transfer if the gift is to a discretionary trust or a potentially exempt transfer (PET). If the gift is a PET then there will be no tax liability providing you survive for at least 7 years from the date of the gift, however, if you die within 7 years, initially the gift will reduce your nil rate band. If the gifts in aggregate exceeded the Nil Rate Band, the excess may be subject to taper relief.
Taper relief has the effect of reduce the amount of tax payable if you die between 3 and 7 years after the gift is given. If you pass away 7 years or longer after the gift was given, the recipient and your estate do not pay IHT on the gift. Any gifts made within 3 years of your death will be subject to a 100% tax liability; however this taxable amount reduces from year 4 to year 7, translating to between 80% and 20% tax liability. Furthermore, any gifts of any value given to your spouse or civil partner are not subject to IHT.
There are other gifting allowances which include wedding gifts to your children, grandchildren or anyone else of £5,000, £2,500, and £1,000 without paying IHT. You can also give £250 to as many individuals as you want in a year without paying IHT, as long as those individuals do not fall within another exemption.
You can also endow or gift a charity, museum, university or community amateur sports club with any size gift as these are also IHT free. In fact, if you gift up to 10% of your estate, you can qualify for a 4% reduction in IHT.
Gifts to a political party are exempt from tax as long as the party has 2 members in the House or 1 member and at least 150,000 votes in the previous general election.
Your primary residence, if gifted to your spouse, is tax free. Gifted to anyone else, however, it is subject to the 7 year gift rule. However starting in 2017, £100,000 of the value of the home will be considered tax free within the calculations of the state. This amount increases to £175,000 in 2020 and follows the consumer price index thereafter. This increased benefit is gradually withdrawn for estates worth more than £2m.
The saying “you cannot take it with you” is one that is relevant when it comes to the burden of IHT. Giving away your estate is a selfless act and may enable you to bring your estate to a level below the threshold of tax. However, if you want other alternatives or have a much larger estate to provide for your spouse or children, there are two more favourable options.
Business IHT Relief
The first of the two is a direct Business relief which amounts to 50% or 100% IHT relief. Your estate can claim a 100% business relief from IHT on any unlisted company you own or have shares in. A listed business can result in a 50% relief if you control more than 50% of the outstanding voting shares. Your estate could also receive 50% relief for business-related land, buildings or machinery that you owned or that were held in a trust that benefitted the business. However ownership in investment companies, realty companies, non-profits or a business being sold or wound up do not qualify for relief.
Enterprise Investment Schemes (EIS) and Business Relief
One the best ways to mitigate your tax liability is to invest in an EIS or SEIS. Not only do you reduce the impact of IHT but you also get relief against income tax as well as your capital gains taxes on EIS qualifying shares. EIS is an Enterprise Investment Scheme, which encourages investment in small and medium sized trading companies that would otherwise find it difficult to raise capital funding through regular channels.
These shares must be ordinary shares without preferential rights upon winding up of the company, but you can invest an unlimited amount, saving up to £300,000 income tax in any given year subject to the limit of 30% income tax relief against the amount of your investment. This is an amazing tax liability mitigation tool. Not only do you receive a tax savings on your annual income but you can also receive 100% IHT relief as long as you have held the investment for a minimum of 2 years at the time of death. You can defer a Capital Gains Tax Liability into an EIS and if you still own the shares when you die, you will never have to pay the Capital Gains Tax.
In order to qualify for the EIS you must not own more than 30% of the shares of a company or be employed by that company. You must also pay for the shares in total to receive the benefits.
Start planning to mitigate your IHT risk by actively gifting parts of your estate and investing in a quality EIS.
Ten IHT Takeaways
1. IHT Tax in the UK is 40% of the estate over £325,000.
2. Primary Residences are exempt from Inheritance Tax on the first £100,000 starting in 2017.
3. Gifts over £3,000 are subject to IHT Tax if they were made within 7 years of a person’s death.
4. Over £3 Billion is collected in IHT annually; this rose by 25% over the last 4 years due, in most part, to rising house prices.
5. Estates passed to a spouse are not subject to IHT, but will be subject to IHT when the spouse (the original holder of the estate) passes away.
6. Shares in unlisted companies that you own or control qualify for 100% IHT relief after 2 years of ownership.
7. Listed companies that you own a controlling stake of voting shares are only eligible for a 50% IHT reduction.
8. EIS provides 100% IHT relief after only 2 years of holding the shares.
9. EIS provides a 30% income tax relief in addition to the IHT relief.
10. Profits from the sale of EIS qualifying shares benefit from 100% capital gains tax relief if you also elected to take the Income tax relief on the shares.
For more details please visit EIS and Inheritance Tax
Please note that this is guidance only. Kuber Ventures is not a tax advisor and you are encouraged to seek your own Tax and IHT advice.