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IHT

Important things to know about Inheritance Tax Planning

John Oliver
13th April 2016

What is Inheritance Tax (IHT)?

  • Inheritance Tax (IHT) is a tax that is payable upon death on all assets above your tax free amount known as your nil-rate band (NRB). Currently the rate is set at 40% and the NRB is set at £325,000. The £325,000 applies to 1 individual, and can be used twice if you are married or in a civil partnership, giving a total NRB of £650,000.

IHT in numbers

  • Inheritance tax receipts to February 2016 show that the total bill for the 2015/16 tax year is on track to be more than £4.6bn compared to £3.8bn for the 2014/15 tax year. This figure is only expected to increase as the NRB remains frozen at £325,000, house prices have generally risen, and more people are being caught by the IHT bracket.
  • Inheritance tax was voted the second most resented tax by the British public, beaten only by council tax
  • Many individuals think it is unfair that they have to pay a further 40% on their assets given that they have paid tax throughout their lifetime on their assets already.

What is the opportunity for advisers?

  • This is seen as a major value-add area of financial planning. If it is done correctly, it will mean a saving of 40% for the next generation. To put that in to context, assuming the full NRB has been used already, a £100,000 portfolio would be worth £60,000 after IHT has been charged if no IHT planning has been done. For that portfolio to then increase back to the same £100,000 value it needs to grow by roughly 66.67%, which is certainly not an easy growth rate to achieve.
  • Succession planning – An adviser saving the next generation a 40% bill and working with the beneficiaries could be more likely to gain them as a client through their effective planning in maximising their wealth.

Recent legislative changes regarding IHT

  • The Government will add a “family home allowance”, eventually worth £175,000 per person, to the existing £325,000 tax free allowance from April 6, 2017.
  • This will be worth £100,000 in 2017-18, £125,000 in 2018-19, £150,000 in 2019-20, and £175,000 in 2020-21
  • This additional allowance will be gradually withdrawn for estates worth more than £2m.

How does this impact a single individual?

Main residence value Other assets Total estate IHT charge today IHT charge from April 2020
£175,000 £150,000 £325,000 Nil Nil
£200,000 £300,000 £500,000 £70,000 Nil
£250,000 £450,000 £700,000 £150,000 £80,000
£400,000 £700,000 £1,100,000 £310,000 £240,000
£750,000 £850,000 £1,600,000 £510,000 £440,000
£1,000,000 £1,000,000 £2,000,000 £670,000 £600,000

How does this impact a married couple?

Main residence value Other assets Total estate IHT charge today IHT charge from April 2020
£175,000 £150,000 £325,000 Nil Nil
£200,000 £300,000 £500,000 Nil Nil
£250,000 £450,000 £700,000 £20,000 Nil
£400,000 £700,000 £1,100,000 £180,000 £40,000
£750,000 £850,000 £1,600,000 £380,000 £240,000
£1,000,000 £1,000,000 £2,000,000 £540,000 £400,000


Traditional IHT planning methods

Here we look at some (but by no means all) of the more common ways to plan for IHT.

Discounted Gift Trust (DGT)– 7 years

A DGT is a type of UK trust arrangement that is typically set up in connection with an investment in an investment/insurance bond. A discount is calculated which pays an income over a given term, and this portion of the total pot is immediately exempt from IHT. The remaining amount takes 7 years to be fully IHT exempt.

Pros-

  • Has an immediate IHT advantage via the discount
  • Clients can receive an income

Cons-

  • Medical underwriting can reduce the effect of the discount dramatically
  • May be unsuitable for the very elderly
  • Sometimes has adviser charging complications

Gifting/Trust Strategies – 7 years

This is the gifting of assets to either an individual or to a trust, with the appointed trustees becoming the nominal owner of the trust assets, and looking after them for the good of one or more beneficiaries. There are a number of different trust strategies and this can be a very complex area of financial planning.

Pros-

  • There are a lot of options available in the market
  • Clients are often familiar with the concept

Cons-

  • Takes 7 years for any gift to be fully IHT exempt
  • No access/control in most circumstance – certain trust strategies allow some retention of control
  • Will not work when a Power of Attorney is in place
  • Uses up a client’s nil-rate band

Life insurance/assurance – typically 10-25 years

Through the payment of regular premiums, there is an amount of money that is paid out on the death of the insured person after a set period.

Pros-

  • No problems in terms of access/control
  • Non-contentious

Cons-

  • Underwriting can have a costly effect on premiums
  • Might be unsuitable for very elderly
  • Whole of life timescale

Business Relief (BPR) – 2 years

BPR is a primary piece of legislation that was first established in 1976 that allows investors in UK unquoted trading companies to have full IHT exemption once the shares have been held for 2 years and are still held at time of death. It is purely an investment and involves no gifting.

Pros-

  • Speed – It only takes 2 years for a share to become qualifying and IHT free
  • Access/Control – it is just an investment so clients retain full access and control to their capital
  • It does not use up the nil-rate band
  • It is primary legislation and not contentious/aggressive
  • No medical underwriting or complex legal structures involved
  • It can be used when a Power of Attorney is in place

Cons-

  • Unfamiliarity
  • Investments are made in unquoted trading companies
  • Liquidity often more difficult to provide

Issues to consider with IHT planning

  • Your financial needs – Many strategies involve giving part of your wealth to beneficiaries. It is important to ensure you have enough for yourself and, where appropriate, your spouse
  • Your family’s financial needs – You should consider the future requirements of your family, and importantly consider the needs of your spouse if you were to die
  • Health/Life expectancy – If someone has health issues or their life expectancy is reduced, some traditional methods of IHT planning such as discounted gift trusts/whole of life policies could become ineffective or costly
  • Age – the more you can plan ahead for IHT, the greater the likelihood of it a) being effective, and b) being economical when looking at cost of premiums where appropriate etc.
  • Legislative change – Changes to the law could mean that you no longer have an IHT issue, and render some strategies unnecessary. It could be frustrating to have given your assets away to find that you had no need to in the long run. BPR, as an example, is just an investment, and it remains within the investor’s estate. This means if someone no longer has an IHT issue, they can sell their shares and retain their funds.

IHT planning is a complex area and every person’s circumstances will vary, so we highly recommend that people seek out professional financial advice when considering IHT planning. The information above covers a small part of this legislation and is by no means exhaustive.



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