Inheritance Tax-Saving Ideas
When the first of a married couple or civil partners dies it may not be clear whether their survivor will need any of their unused tax-free allowance later on. To keep your options open, make sure you keep all the documents relating to the first death. You can inherit the unused tax-free allowance from more than one spouse or civil partner who dies before you. But the maximum tax-free allowance you can have is capped at twice the normal personal limit.
If you will leave assets whose value is likely to grow by more than the increase in the tax-free allowance (usually broadly in line with price inflation), it will generally be more tax-efficient to include a discretionary trust in your will rather than rely on leaving your spouse or civil partner some unused tax-free allowance.
Inheritance tax-free limits
- Tax year 2008–09, tax-free limit: £312,000
- Tax year 2009–10, tax-free limit: £325,000
- Tax year 2010–11, tax-free limit: £325,000 (1)
- Tax year 2011–12 to 2014–15, tax-free limit: £325,000
(1) Previously the government had announced that this limit would increase to £350,000, but has subsequently frozen the limit at the 2009–10 level.
Tax on gifts within seven years before death
Quite separately from tax on your estate, potentially exempt transfers and taxable gifts you made in the last seven years are reassessed on death and tax (or extra tax) may be due on them. Initially, the person you made the gift to will be asked to pay. If they can’t or won’t, tax is paid from your estate. But taper relief can be claimed to reduce the tax bill if the gift was made more than three years before death.. Note that taper relief does not reduce the tax bill on the estate, and will only be useful if the life-time gifts exceed the nil band of £325,000.
|Years between gift and death||% of inheritance tax payable|
|Up to 3||100%|
|More than 3 and up to 4||80%|
|More than 4 and up to 5||60%|
|More than 5 and up to 6||40%|
|More than 6 and up to 7||20%|
Angela Framing died in May 2010, leaving an estate worth £316,000 (largely the value of her home). In December 1999, she had made a taxable gift of £15,000 to help a grandchild with the cost of studying. Subsequently, in August 2002, she gave another grandchild a taxable gift of £5,000 to start a business.
In calculating the tax due on Angela’s estate, the £20,000 of taxable lifetime gifts is added to the £316,000 left on death to produce a total of £336,000. The first £325,000 of that is free of tax, leaving £336,000 – £325,000 = £11,000 on which tax is due.
Tax at 40 per cent on £11,000 is £4,400 – tax that will be entirely paid out of Angela’s estate, since the life-time gifts are deemed to use up part of the £325,000 before the balance is used to calculate the tax on the estate.
Gifts free of inheritance tax
Gifts that are always tax-free:
- Gifts between husband and wife or civil partners – even if the two are legally separated. But only the first £55,000 is tax-free if the gifts are to someone who is not domiciled in the UK (domicile reflects the individual’s natural home
- Gifts to UK charities and community amateur sports clubs
- Gifts to certain national institutions such as the National Trust, National Gallery, British Museum (and their Scottish, Welsh and Northern Ireland equivalents)
- Gifts of certain types of heritage property such as paintings, archives, land or historic buildings to non-profit-making concerns like local museums
- Gifts of land in the UK to registered housing associations
- Gifts of shares in a company into a trust for the benefit of most or all of the employees which will control the company
- Gifts to established political parties.
Gifts that are tax-free on death only
- Lump sums paid out on your death by a pension scheme provided the trustees of the scheme have discretion about who gets the money
- Refunds of personal pension contributions (and interest) paid directly to someone else or a trust – in other words, not paid into your estate
- The estate of anyone killed on active military service in war or whose death was hastened by such service
- £10,000 ex gratia payments received by survivors (and their spouses) held as Japanese prisoners of war during World War Two and amounts from other specified schemes that also provide compensation for wrongs suffered during the war.
Gifts that are tax-free in lifetime only:
- Anything given to an individual more than seven years before your death – unless there are strings attached
- Small gifts worth up to £250 to any number of people in any tax year. But you can’t give anyone more than this limit and claim exemption on the first £250 – if you give someone £500, the whole £500 will be taxable unless it is tax-free for one of the other reasons below
- Regular gifts that are treated as normal expenditure out of income. The gifts must come out of your after-tax income and not from your capital. After paying for the gifts, you should have enough income to maintain your normal standard of living
- Gifts on marriage to a bride or groom or on registration to civil partners: each parent of the bride, groom or partner can give £5,000, grandparents or remoter relatives and the bride, groom or partners themselves can give £2,500 and anyone else £1,000. The gifts must be made before the big day – and if the marriage or registration is called off, the gift becomes taxable
- Gifts for the maintenance of your family – your current or a former husband, wife or civil partner, certain dependent relatives and children under 18 or still in full-time education. The children can be yours, stepchildren, adopted children or any other children in your care
- Up to £3,000 in total a year of other gifts. If you don’t use the whole £3,000 annual exemption in one year, you can carry forward the unused part to the next tax year only. You can’t use the annual exemption to top up the small gifts exemption. If you give someone more than £250 in a year, all of it must come off the annual exemption if it is to be free of inheritance tax.