Inheritance tax is charged on what you leave when you die if the amount exceeds a set limit. Very few people are affected by it, with only 4 per cent of those who die each year leaving an inheritance tax (IHT) bill for their heirs.
But that doesn’t mean you can safely ignore it. The tax rate is a hefty 40 per cent on anything over £250,000 (2002-03). But with careful planning there are plenty of ways to avoid a potential bill.
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How to reduce or avoid IHT
The main strategies for minimising IHT are:
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- For married couples to share their wealth, as gifts between husband and wife are tax-free, and each can leave up to £242,000 without paying IHT.
- To leave your money to charity, to institutions such as the National Trust, or even to a political party. Such gifts are completely tax-free, whether you make them during your life or as bequests in your will.
- To give away your money during your lifetime, either outright or by putting it into trust.
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Lifetime gifts
You can make the following tax-free gifts during your lifetime:
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- Any amount given to an individual more than seven years before your death, known as a potentially exempt transfer.
- Small gifts of up to £250 each to any number of people.
- Up to £3,000 a year in total gifts to one or more people. If you don’t use this allowance in one year, you can carry it forward to the next tax year.
- Gifts on marriage to a bride or groom. Each parent can give £5,000, grandparents or remoter relatives £2,500 and anyone else £1,000.
- Regular gifts made out of normal income.
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Taper relief
Potentially exempt transfers (PETs) are big business in the IHT avoidance industry. Any transfer of money into a trust, for example, is usually a PET. If you die within seven years of making a PET, the gift falls into the IHT net. Taper relief may reduce any tax due, by 20 to 80 per cent if you die between three and seven years after making the gift. But don’t put too much reliance on this:
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- Taper relief is only available on tax due on the gift itself.
- There won’t be any tax due if the gift is within the nil rate band, ie less than £250,000 for 2002-03.
- In that case, the gift will effectively be added to your estate in its entirety, as all it does is use up part of your nil rate band.
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So you won’t gain any tax savings if you make a PET of less than £242,000 and die within seven years.
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Further considerations
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- Set up trusts to pass on capital to children or grandchildren. Get expert tax and legal advice first.
- Have your insurance policies written in trust to avoid them being classed as part of your estate.
- Set up a separate life insurance policy in trust to cover any potential IHT bills your heirs might have to pay.
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Copyright The Financial Times Limited 2008
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