Wealthy families and
individuals should consider taking action now to minimise future inheritance tax (IHT) bills ahead of a potential review of the tax by the government.
This week, the Office of Tax Simplification (OTS) – set up by the chancellor to recommend whether a list of 1,042 tax reliefs should be abolished or modified – proposed that a “proper review” of IHT should take place.
But, before that can happen, new types of IHT-saving schemes involving transfers of property or other assets into trusts will have to be disclosed to HM Revenue and Customs, under new rules from April. Experts say this could prompt a tightening of tax avoidance rules and make families more cautious about these structures.
“There are likely to be further changes to IHT legislation over time, which is why it is important to review your planning arrangements regularly,” says Patrick Connolly of AWD Chase de Vere, the financial advisory firm.
With more individuals now at risk of paying IHT as a result of the government’s freeze of the annual exemption limit at £325,000 for four years, advisers suggest the following ways to minimise future IHT bills.
Individuals can gift up to £3,000 a year free of IHT, or £6,000 if they failed to use the exemption in the previous tax year. A married couple giving for the first time could, therefore, hand over £12,000 to their children in one year, says Connolly. After that, the maximum for a couple is £6,000 each year.
Small gift exemption
Individuals can also give up to £250 to as many people as they like each year. This cannot be combined with the annual £3,000 exemption, however.
Parents can give £5,000 tax- free to each of their children as a wedding or civil partnership gift. Grandparents can give £2,500. Any other person can gift £1,000.
Married couples can pass assets to each other during their lifetime free of IHT.
Since 2007, the survivor of a marriage can claim up to 100 per cent of their partner’s nil-rate band in addition to their own entitlement, providing an allowance of up to £650,000.
Regular gifts out of surplus income
If gifts are made on a regular basis out of income and do not affect your standard of living, they are tax-free regardless of size. Julie Hutchison, head of estate planning at Standard Life, says this relief is underused. According to its upcoming 2011 Wills and Trusts report, 46 per cent of individuals were not aware of such an exemption.
Individuals have to make sure the gifts are regular,
so there must be an established pattern. The accountancy firm Baker Tilley says regular payments of grandchildren’s school fees should qualify.
Potentially exempt transfers (PETs)
Individuals can make further tax-free gifts – known as PETs – but donors need to survive for seven years after making the gift for it to be exempt from IHT.
If you die within seven years and the gifts are valued at more than the nil-rate band threshold, taper relief is applied to any value in excess of the threshold.
Donors cannot get any subsequent benefit from the gift – for example, individuals cannot give away the family home if they continue to live in it, unless they pay a market rent.
Assets put into a “bare” trust – a trust commonly used to transfer assets to minors – count as a PET, with the seven-year rule applying to any amount not covered by annual exemptions.
Gifts to most other types of trusts are now treated as chargeable lifetime transfers (CLTs). CLTs up to the nil-rate band threshold suffer no IHT but higher amounts are taxed at 20 per cent, with a further 20 per cent payable if the person making the gift dies within seven years.
“A number of different packaged IHT mitigation schemes involve an underlying investment wrapped within a trust that can be tailored to meet the risk profile and objectives of an individual,” says Connolly.
Business Property Relief
Sarah Lord of Killik Chartered Financial Planners says individuals could have a portfolio that invests in assets that qualify for business property relief, such as shares listed on the Alternative Investment Market. Qualifying assets must be held for at least two years and at the date of death.