Recent research by pension provider Canada Life reveals that nearly three-quarters of people (70%) said they have done nothing about Inheritance Tax (IHT) or a possible liability to it.

What may come as a surprise though, is that 40% of people said they were worried about their estate having to pay the tax.

As no one likes to consider their mortality, perhaps it’s not surprising that so many people choose not to deal with a possible Inheritance Tax (IHT) liability. That said, by taking some relatively simple steps you could significantly reduce the IHT your estate could be liable to, or even potentially negate it.

When you consider that IHT is typically charged at 40%, reducing your liability could result in you leaving significantly more money to loved ones. More than this, a recent government freeze on the amount you’re allowed to have in your estate on death before the tax is due could result in a higher IHT liability if you don’t act.

Read on to discover what IHT is, the amount you’re allowed to have before your estate may be liable, and how a financial planner could help ensure you don’t pay it unnecessarily.

1. IHT might be liable against everything you own on death

While IHT may be liable on your total assets, there is some good news as the government typically provides you with a nil-rate band (NRB), which is the amount you can have in your estate on death before IHT is liable. In 2021/22, the NRB threshold is £325,000 per person or £650,000 for married couples.

If you plan to leave your home to your children or grandchildren, you may also be entitled to the residence nil-rate band (RNRB).

If you are, your threshold may increase to £500,000 if you’re single or £1 million if married. There are strict regulations around both thresholds, so always speak to a financial planner to confirm what your tax-free allowance is.

In his March 2021 Budget, the chancellor froze these thresholds until 2026. If your wealth continues to increase because your investment and property values rise, the freeze could result in a greater IHT liability.

2. You could use gifts to reduce or negate any IHT liability

If you find you do have an IHT liability, you could give money to beneficiaries to reduce the value of your estate. Reducing the amount of wealth you have could reduce your IHT liability, and if you can reduce it to within the NRB threshold, it will typically negate any liability to the tax.

You are allowed to make gifts during the tax year, which in 2021/22 includes an annual gift of up to £3,000, which can be given to one person or split between many. You could also give an unlimited number of gifts of up to £250 each, wedding gifts of between £1,000 and £5,000, and unlimited gifts of any amount from income but not capital.

As strict rules apply to these gifts, always speak with a financial planner to ensure you don’t fall foul of them, and that gifting is right for you.

3. Potentially exempt transfers (PETs) could help reduce your estate’s value

If you have a substantial estate, you may need to make larger gifts to bring your estate within the NRB threshold. You could do this by using a potentially exempt transfer (PET), which allows you to make unlimited gifts to as many people as you like.

The only stipulation is that you must live for seven years after making the gift for it to fall outside your estate. If you don’t, it typically becomes liable to “taper relief”, which is a sliding scale of IHT depending on how long you survive after making the gift.

4. Life cover or certain investments could help reduce your IHT liability

If you do not think you will survive seven years and have an IHT liability you may be able to make financial provisions that could settle an IHT liability. One way to do this is using life insurance, which pays out a lump sum when you die.

While this will not reduce or negate your IHT liability, the money can be used to settle all or part of the IHT liability. This means beneficiaries will not have to use any of the assets you leave them, meaning they effectively receive more money. Just make sure you place your life insurance in trust so the payout falls outside your estate on death.

5. Alternatively, you could use investments that are not subject to IHT

Another option, if you’re worried you may not survive the seven years needed for a PET, is to consider investments that provide Business Relief. Typically, these investments can be passed to beneficiaries free of IHT after just two years.

Always speak to a financial planner about whether these investments might be right for you, as they usually invest in smaller or fledgling companies and so are considered high-risk.

Get in touch

As you can see, if you do have an IHT liability, there could be several options open to you. A financial planner could help confirm whether you have an IHT liability and what action you may be able to take to mitigate it.

If you would like to discuss your situation regarding IHT and the most effective way to pass your wealth on to your family and friends, please contact us on 0800 434 6337.

Please note:

This article is for information only. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.