5 Ways to Pay Less IHT

Catherine Alexander
Partner at GDA Financial Partners

Inheritance Tax (IHT) is a tax on the estate of someone who has died. This includes all property, possessions and money. Following death, the executors of the Will (or administrators if there is no Will) must calculate the value of all assets, after deducting any liabilities the remainder is what is termed your estate, and this may be subject to IHT. If you are domiciled in the UK (the UK is your permanent home), IHT is paid on your worldwide assets, however, if you are domiciled in another country, you only pay IHT on your UK assets (your home country may also have it’s own tax rules which may apply).

Currently, you will pay an inheritance tax rate of 40% on your taxable estate. However, the value of your estate can be reduced in many situations, and below are five ways that you can work to reduce any IHT liability that may apply.

1. Make a Will
   Making a Will is one of the easiest and most straightforward ways to make sure that your money goes to the people that you want it to after you have died. It allows you to choose to have your assets managed in the most tax-efficient manner. You can use your Will to make gifts, set-up trusts, and manage where the money goes to - this means that so that the transfer of assets is completed in the best way to minimise IHT.

2. Use your Nil Rate Band Allowances
   You do not pay inheritance tax on the first £325,000 of your assets. This is known as your nil rate band. It is a tax-free allowance which is available for everyone. If you die and leave your assets to your spouse, they will also inherit your tax-free allowance. They will then have two tax-free allowances, allowing them to pass on up to £650,000 before IHT is due. There is also an extension of the nil rate band called the residence nil rate band, this gives you an additional £175,000 which can be used towards your main residence, as long as it is passed to a direct descendant i.e., a child or grandchild. As per the nil rate band, if you die and leave your main residence to your spouse, they will inherit your residence nil rate band. They will then have two allowances of £175,000, providing them with £350,000. Combined, each person has an allowance of £500,000 that can be gifted without inheritance tax. Or, if you die and leave assets to your spouse, they will have an allowance of £1,000,000.

3. Use Pensions
   Most pensions are treated as outside of your estate, meaning that they can be passed on tax-free. When you die, you can nominate who you want to receive your pension - to do this you should make sure that you complete an expression of wish form. You can nominate anyone you wish, it does not have to be your spouse or children. However just to note, in October, the Chancellor announced that most unspent pension funds will form part of your estate from April 2027.

4. Use Gifts
   Gifting is a highly effective way of reducing the value of your estate for inheritance tax. This reduces your IHT liability because you move assets out of your estate. You need to plan this carefully however, because you need to know how much you can afford to give away while ensuring that you have enough to meet your own needs. Additionally, how you structure the gift will determine how much IHT you mitigate and you may need to take into account the 7-year rule, before an asset is totally free of IHT. Certain gifts are totally exempt from IHT such as gifts to spouses, gifts which use your annual exemption of £3,000, wedding gifts, gifts to charities or political parties, or small gifts up to £250.

5. Use Business Relief
   Certain types of businesses and investments are eligible for Business Relief. This allows some or all of the assets to be passed on tax-free. To qualify for Business Relief, the deceased must have owned the qualifying assets for at least 2 out of the last 5 years before death, and at the date of death. There are certain investments which allow you to buy into a scheme that qualifies for Business Relief. This is useful when you want to retain control over the assets purchased (in case you need to sell at some point), but also aim to qualify for 100% relief against Inheritance Tax. These schemes allow you to benefit from Inheritance Tax relief after two years, rather than to wait for 7 years if you make a gift.

We have looked at five ways of paying less IHT here, but there are also other ways of mitigating your IHT, and you are able to use a combination of methods depending on your personal situation. If you need help reducing your inheritance tax, or just want to talk through your situation, please contact us to make an appoinment. Working with a financial adviser will ensure you make smart financial decisions and avoid paying more than you have to in tax.

This article isn’t personal advice. If you’re not sure whether a course of action is right for you, ask for financial advice.