In the 2017/18 tax year, Brits paid out a total of £5.4 billion in Inheritance Tax (IHT). More than 28,000 deaths triggered a charge in 2016/17, up 15% on the year before, and IHT receipts are forecast to reach £6.9 billion by the 2023/24 tax year.

One of the reasons behind this hefty tax bill is that many people simply aren’t taking estate planning advice. Recent research by TIME Investments has revealed that almost three in five investors (58%) aged over 50 who use an independent financial adviser have not asked them for IHT advice.

IHT should form part of a holistic approach to financial planning. Here, we share some ways in which you can mitigate IHT and safeguard your child’s inheritance.

1. Start planning early

IHT planning doesn’t have to wait until your later years. In fact, starting early and getting a plan in place as soon as possible can be one of the ways that you mitigate any tax liability.

Thinking early about the ways you want to share intergenerational wealth can help you to maximise the gifting exemptions that are available to you. These early stages of planning should, ideally, consider all members of the family so that you can balance any planning you action during your lifetime with the plans you have for transferring your wealth on death.

Planning will involve thinking about how much income you need now and in your retirement, and how long this may need to last. This can be a complex calculation as it involves an assessment of your lifestyle, your life expectancy, your health and the effects of inflation.

However, once you have a plan in place for structuring your retirement income, IHT planning should then be a priority.

2. Gift cash or assets

One of the simplest ways to mitigate your IHT liability is to make gifts. There are several IHT gift exemptions you can use during your lifetime, including:

  • Your annual exemption of £3,000 – you can gift up to £3,000 every year
  • Gifts on marriage – you can gift up to £5,000 to a child getting married, £2,500 to a grandchild or £1,000 to anyone else
  • Small gifts of up to £250
  • Gifts from ‘normal expenditure out of surplus income’ – these gifts must be regular, must be made from your income and must not reduce your standard of living

Of course, you can gift any property, cash or assets to someone in your lifetime tax-free as long as you survive for seven years after making the gift.

There will only be IHT paid on these ‘Potentially Exempt Transfers’ (PETs) if you die within seven years of making the gift and your estate exceeds the IHT threshold after all exemptions are used.

The Office of Tax Simplification (OTS) has proposed several changes to IHT gift rules, from increasing the small gifts allowance to reducing the seven-year gift assessment period to five years. It will be interesting to see if any of these changes are adopted in the coming years.

3. Use the Residence Nil Rate Band (RNRB)

The Nil Rate Band for IHT has been stuck at £325,000 for more than ten years. In response to this, the government introduced the Residence Nil Rate Band (RNRB) which allows homeowners an additional £150,000 before they have to pay IHT. This figure rises to £175,000 in April 2020.

In order to use the RNRB, you must leave your home to direct descendants and, if your estate is valued at more than £2 million, then this additional allowance is tapered.

If you are married, you can both leave your assets and transfer your RNRB to your spouse. This allows them to use up to twice the tax-free amounts available to a single individual.

The OTS describes the RNRB as ‘one of the most complex areas of Inheritance Tax’ and one that is in desperate need of a rethink. So, there may also be changes to come to this valuable exemption.

4. Use pensions

Your pension might seem like an odd way to safeguard your child’s inheritance but, unlike ISAs and other long-term savings that are subject to IHT, flexible pensions can be an efficient way of transferring wealth between generations. Pension funds do not typically form part of your estate for IHT purposes.

If you die before the age of 75, your nominated beneficiaries will not have to pay tax on any withdrawals from your pension scheme, whether as an income or lump sum.

If you die after the age of 75, any pension assets passed to a beneficiary are taxed at the marginal Income Tax rate of the recipient.

If you have built up other assets over your lifetime, then it can be tax efficient to use these other assets to fund your retirement lifestyle and leave your pensions untouched. These pensions can then be passed to your beneficiaries.

Get in touch

Need help with your estate planning? Want to reduce your IHT liability or set up a plan for transferring your wealth? Get in touch. Email or call us on 01785 876222.

A pension is a long-term investment not normally accessible until 55. The value of your investment (and any income from them) can go down as well as up and you may not get back the full amount you invested. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor. The Financial Conduct Authority does not regulate tax advice.