Inheritance Tax (IHT) Case Study

Nobody likes paying taxes, and even on your death, your children or grandchildren could be subject to 40% tax on some of their inheritance. There are a number of potential tax-efficient solutions which could be considered to mitigate the possible IHT liability on death. However, the suitability of these solutions will depend on your personal circumstances and objectives. Please see our case study below.

Case Study

Mrs Jones is a 68 year old widow who retired two years ago. She is in good health and has three financially independent children. She has made a Will and upon her death the estate will be passed to her children equally. One of her children is married with one child, one is in a long-term relationship and has a child with her partner, and one is divorced. Mrs Jones would like to ensure that her estate remains within the family bloodline and would like to protect any inheritance to her children should they get divorced.

Mrs Jones’ estate is worth £1.5 million and consists of a property worth £800k with the remainder being held in cash deposits, ISAs and an investment portfolio.

Mrs Jones has no liabilities.  She repaid her mortgage a couple of years ago utilising the Tax-Free Cash Lump Sum from her pension. She has an annual pension income of £39,000 derived from her State Pension and a private pension. Her income is in excess of her expenditure requirements.

Mrs Jones has inherited 100% of her deceased husband’s Nil Rate Band (currently £325,000 in 2016/17), which gives her a total of £650,000 including her own Nil Rate Band.  Assuming that Mrs Jones has not taken any financial planning advice, she could be liable to 40% tax on the chargeable portion of her estate of £850,000 should she pass away imminently, as shown below:

The new IHT Residence Nil Rate Band (RNRB) will be introduced in April 2017. It is in addition to an individual’s own Nil Rate Band of £325,000, and conditional on the main residence being passed down to direct descendants (e.g. children, grandchildren).

There are some complex aspects of claiming the residential Nil Rate Band and advice should be sought.

The maximum amount will be phased in as follows;

Year        Maximum main residence Nil Rate Band
2017-18   £100,000
2018-19   £125,000
2019-20   £150,000
2020-21   £175,000

The following example demonstrates how the impending RNRB could affect Mrs Jones’ Inheritance Tax liability, assuming that she survives until 2020/21 (the tax year from when the RNRB is extended to £175,000). This means that the combined Nil Rate Band would receive an uplift to £500,000 for herself and she will also inherit 100%* of her deceased husband’s RNRB.  Therefore, based on the current value of her estate, it would reduce the liability from £340,000 to £200,000 (£140,000 IHT saving), as shown below:

(*Since Mr Jones died before the legislation was introduced initially the RNRB inherited would be £100,000 but this would be uplifted to the residential enhancement value at Mrs Jones date of death which is £175,000. The legislation is yet to receive Royal Ascent and therefore the final details could be subject to change.)

However, the IHT problem would still be there; and it is important to consider taking appropriate financial planning advice in order to minimise the potential IHT liability.

Suitable solutions will depend on your personal circumstances, objectives and requirements. Such solutions could be:
•Using available exemptions and reliefs.
•An appropriate Trust arrangement.
•Appropriate life insurance policy written under Trust.
•An investment into a scheme which will qualify for tax reliefs, including business property relief.
•Gifts that will qualify as Potentially Exempt Transfers or Chargeable Lifetime Transfers.

If you would like to discuss your circumstances and address the potential IHT issue, please contact our financial advisors who will be happy to explore this with you and advise accordingly.