3 clever ways to reduce a potential Inheritance Tax bill

Recent news reports suggest that prime minister Rishi Sunak is considering reducing Inheritance Tax (IHT) and possibly removing it altogether in the long term.

However, for now, IHT is charged at 40% for estates worth more than £325,000 (2023/24). If you choose to pass on your main residence to direct descendants (children or grandchildren), you could benefit from an additional allowance of £175,000, thanks to the residence nil-rate band.

So, you could potentially pass on assets worth up to £500,000 without your beneficiaries needing to pay any IHT. If you’re married or in a civil partnership, you may be able to combine your individual allowances and jointly pass on assets worth up to £1 million to your children without any IHT to pay. 

Yet, an increase in house prices during the Covid-19 pandemic, rising inflation in recent years and a freeze on IHT thresholds until at least April 2028, may have contributed to a rise in the number of people eligible to pay IHT. 

In fact, according to recent figures published by IFA Magazine, the number of families paying IHT has risen 17% in 2022/23 compared to the previous tax year. 

So, if your estate is likely to be affected by IHT, how can you ease the tax burden for your beneficiaries? Read on to find out three clever ways to reduce your IHT bill.

1. Gift assets to your family and loved ones

You may be able to reduce the value of your estate for IHT purposes by giving away some of your assets as gifts during your lifetime. A gift could be money, property, land, personal possessions, or stocks and shares.

Whether you pay IHT on a gift will depend on:

• The relationship between you and the recipient of the gift
• The value of the gift
• When the gift was given.

There is usually no IHT to pay on gifts given to spouses or civil partners, charities or political parties.

You are also entitled to an annual exemption which allows you to give away up to £3,000 (2023/24) worth of gifts each tax year without incurring IHT. 

You can carry forward any unused annual exemption to the following year, but this is only permitted once. So, if you do not use any of your annual allowance in this tax year, you could give up to £6,000 worth of gifts in the next tax year. 

Any gifts you make to your children and family may be subject to the “seven-year rule”. 

Essentially, this means that if you live for more than seven years after giving the gift, the recipients won’t have to pay IHT when you die. If you die before seven years have passed, your gift will be taxed on a sliding scale depending on the amount of time between when the gift was given and when you died. 

IHT planning can be complicated, so speaking to a financial planner could help you avoid common mistakes and allow you to pass on your estate in the most tax-efficient way. 

2. Leave your pension to loved ones

Your pension could be one of the most valuable assets you own. According to data published by the Office for National Statistics, between 2018 and 2020, pensions made up 42% of total net household wealth.

Further, since chancellor Jeremy Hunt removed the Lifetime Allowance and increased the Annual Allowance from £40,000 to £60,000, you now have more opportunity to boost your pension pot. 

This is good news when it comes to estate planning because pensions are usually excluded from your estate for IHT purposes.

So, if you have other income streams to rely on in later life, leaving your pension to loved ones could allow you to pass on a significant amount of your wealth without paying IHT. 

3. Use Business Relief

Business Relief could reduce the value of a business or its assets for IHT purposes.

If you own a business that you’d like to pass on to your family, you may be able to get Business Relief of 50% or 100% on some of your estate’s business assets.

However, not all assets qualify for Business Relief. For example, you can’t claim relief on any asset that is not required for the future operation of the business. 

You might want to consider talking to a financial planner who can help you understand the benefits of Business Relief and how you could make the most of it when thinking about your estate plan. Taking action while you are living could help ensure that your beneficiaries enjoy the maximum benefit.

You could also invest in companies that qualify for Business Relief. After two years, your investment would not be liable for IHT even if this money pushes you over the IHT threshold.  

As well as using the benefits of Business Relief, IHT can also be managed and reduced using certain trusts and charitable donations. A financial planner could help you understand IHT rules and discuss all your options, allowing you to pass on as much of your wealth as possible to your loved ones.

Get in touch

If you’d like to learn more about your IHT obligations and explore ways to reduce your tax burden, please contact us by email at info@lloydosullivan.co.uk or call 020 8941 9779 to see how we can help you.

Please note

The Financial Conduct Authority does not regulate estate planning, tax planning or will writing.

Remember that taper relief only applies to gifts in excess of the nil-rate band. It follows that, if no tax is payable on the transfer because it does not exceed the nil-rate band (after cumulation), there can be no relief.

Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.

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.