The taxman doesn’t stop knocking on your door even after your death. In the UK, Inheritance Tax (IHT) is a tax on the estate of a person who has died, covering all property, possessions and money. If you want to protect your loved ones during this difficult time, then it’s important to understand how the tax works, how much it is and the ways you can ensure those left to deal with it don’t have to pay a fortune.
How much is Inheritance Tax?
The standard IHT rate is 40% but it’s only charged on the part of your estate that’s above a certain threshold. There is currently no Inheritance Tax paid:
- If the value of your estate is below £325,000.
- You are leaving everything above £325,000 to your spouse, civil partner, a charity or a community amateur sports club.
But if your estate is above the standard £325,000, you’ll pay tax at a rate of 40% on the part above it. For example, if your estate is worth £500,000, it means your tax-free threshold is £325,000 and the 40% tax will be applied on the £175,000 above the threshold.
There are situations where the threshold can increase. It is £475,000 if you are giving away your home to your children or grandchildren, for instance. You can also help increase your partner’s threshold if your estate is valued below the threshold. If you were married or in a civil partnership, then any unused threshold can be added to your partner’s threshold, allowing them to have a threshold of up to £950,000.
As mentioned, your estate’s value includes everything from property, possessions and money. To value an estate you will have to:
- Create a list of the assets and calculate their value at the time of your death.
- Deduct any debts and liabilities from them.
Who has to pay Inheritance Tax?
You won’t be around to take care of the Inheritance Tax and the responsibility generally falls to the executor of the will. This is in cases where there’s a will. If there is no will, the administrator in charge of the estate will take care of paying the tax bill.
Inheritance Tax can be paid from the estate’s funds or from any money raised from asset sales. There is also the option of Direct Debit Payment Scheme (DPS), which allows IHT paid directly from the account assigned for the scheme. If you have a whole-of-life insurance policy, it is possible to arrange the Inheritance Tax to be paid using the insurance.
When do you pay Inheritance Tax?
If you need to pay Inheritance Tax, you will need to inform HMRC and receive an IHT reference number. You should get the reference number at least three weeks before making the payment. The tax should be paid by the end of the sixth month after the person’s death. If you miss this deadline, HMRC will begin to charge interest.
It’s a good idea to pay some of the tax within the first six months even if the valuing of the estate is not finished. This payment is called payment on account and it can help reduce the interest that could be charged later. The executor or administrator can pay the tax from their own account as well and claim it back from the estate later. We’ve previously done a post on executor duties and it’s worth having a look at it if you are in charge of dealing with another person’s estate.
How to reduce the amount of tax paid?
You don’t want your loved ones to have to deal with a big tax payment after your death. The good news is that there are ways you can plan for IHT and lower the amount of money you need to pay.
The best ways to reduce how much Inheritance Tax is paid is if you:
- Place your assets into a trust for your heirs to use.
- Decide to leave your estate to your spouse or civil partner.
- Pay into a pension instead of a savings account.
- Give away up to £3,000 a year in gifts.
- Leave your estate to charity.
It’s also worth remembering that gifts to children and other family members can be subject to inheritance tax dating back seven years. When you make a gift, the transaction is subject to a Potentially Exempt Transfer, which assumes you are going to live for seven more years and no tax is paid. However, if you die within seven years, the gift falls under Chargeable Transfer and it might be subject to IHT.
Business owners should also be aware of the Business Relief for Inheritance Tax. You might be able to receive either 50% or 100% tax relief on certain business assets of the estate. You can find more about this here.
Get advice on estate and tax planning
While most people don’t like to think about death, it’s, nonetheless, important to prepare for this inevitable part of life. You can make this difficult time for your loved ones a lot easier by writing a will and thinking about your estate. Estate and tax planning can help reduce the tax bill and ensure your loved ones don’t lose out.
You can talk to us if you’d like professional help with your will or tips on planning for Inheritance Tax. We have years worth of experience in tax planning and together we can work out the best ways to prepare your estate for Inheritance Tax. Contact us today for advice!