A Simple Guide to Inheritance Tax
Inheritance Tax can be a costly expense that hits loved ones for hundreds or even thousands after someone dies.
It’s something that often comes as a surprise as many people are unaware of it or assume they are not liable to pay anything. That’s why we’ve put together this simple guide to Inheritance Tax, what it is and whether you need to pay it.
This article contains:
- What is Inheritance Tax?
- Who has to pay it?
- What about transfers and gifts given before death?
- What if you want to leave your home to your family?
- What are the Inheritance Tax rates?
What is Inheritance Tax?
Inheritance Tax is a special type of tax that applies to the estate, (property, money, and possessions) of someone who has died.
Individuals who have been a tax resident in the UK for 16 years could fall under the Inheritance Tax rules.
Who has to pay it?
The good news is that not everyone will have to pay it. There are some exemptions you need to know about.
There is no tax to pay if:
- The value of the estate is below £325,000
- You leave everything over £325,000 to your spouse, civil partner, a charity or community sports club
What about transfers and gifts given before death?
A common way people try to help their loved ones avoid Inheritance Tax is by transferring money or property before death.
However, it may not be as simple as that. With the seven-year rule, any transfers of the estate given within the seven years leading up to the person’s death could still be subject to Inheritance Tax. That means those transfers given over seven years before death will be exempt from tax.
There are some other exemptions when it comes to gifts as well. For example, there’s no tax to pay on small gifts such as birthday presents. There’s also no tax to pay on gifts between spouses or civil partners.
In total, you can give away £3,000 in gifts each tax year without them being added to the value of your estate. This is called your annual exemption, which can be carried forward to the next year if unused.
For more information on the type of gifts that may be exempt from Inheritance Tax, take a look at the list on the government’s website.
What if you want to leave your home to your family?
If you leave the home you currently occupy in your will, the rules are slightly different. If you name direct descendants (children, grandchildren or adopted children) in your will, two tax-free allowances apply.
The £325,000 tax allowance still applies, but on top of this, there’s another allowance of £175,000.
This is the main residence band that applies if you pass on your main residence to your direct descendants. This means that passing on a home worth below £500,000 will be tax-free - but only if the total estate is worth less than £2 million.
What if there are two or more directors?
The Employment Allowance allows companies to claim up to £4,000 to cover the costs of the employer’s National Insurance. However, to be eligible, the company needs at least two directors on the payroll which means sole directors can’t benefit from it.
With the Employment Allowance in place, the optimum salary for two or more directors is at the Primary Threshold of £9,568 per annum or £797.33 per month. Taking a salary at this amount means that the directors will be able to avoid paying National Insurance.
What are the Inheritance Tax rates?
The Inheritance Tax rate is currently 40% which applies to anything above the relevant tax thresholds.
Usually, anything above that £325,000 threshold will be taxed at a rate of 40% when you die. However, this can be reduced to 36% if you leave at least 10% of your estate to a charity in your will, or if other exemptions apply.
With Inheritance Tax allowances and exemptions, it is possible to reduce or avoid any Inheritance Tax. However, for those who are unsure of the best ways to do this, speaking with an accountant is your best bet. They’ll be best placed to help you navigate your tax responsibilities and reduce your liabilities where possible.