How Much is Inheritance Tax (IHT)?

Inheritance Tax (IHT) is a tax on the estate (the property, money, and possessions) of someone who has passed away. In the UK, inheritance tax is often a concern for individuals looking to protect their assets and ensure their loved ones inherit as much as possible. Understanding how inheritance tax works, the rates, and how much could be owed on your estate is crucial for effective estate planning.



In this blog, we’ll explore how much inheritance tax is, when it applies, and ways to reduce the amount your estate might have to pay.

Current Inheritance Tax Rate in the UK

Inheritance tax is payable at a standard rate of 40% on the portion of your estate that exceeds the tax-free threshold (also known as the Nil Rate Band). The tax-free threshold is currently £325,000 for individuals.

Key points to note:

• If your estate is worth less than £325,000, no inheritance tax is payable.
• If your estate exceeds this threshold, only the portion above £325,000 is taxed at 40%.
• For married couples or civil partners, any unused allowance can be passed on to the surviving partner, potentially doubling the threshold to £650,000.

How the Nil Rate Band Works

The Nil Rate Band is the amount of your estate that is not subject to inheritance tax. As mentioned, this is currently set at £325,000. Any amount above this is taxed at 40%.

For example:

• If your estate is worth £500,000, inheritance tax will only apply to £175,000 (£500,000 - £325,000). This means £175,000 is taxed at 40%, resulting in a tax bill of £70,000.

Residence Nil Rate Band (RNRB)

In addition to the standard Nil Rate Band, there is an extra allowance called the Residence Nil Rate Band (RNRB), which applies when you pass on your main residence to direct descendants (children, grandchildren, etc.). The RNRB is currently an additional £175,000.

This means that, when combined with the standard Nil Rate Band, an individual could pass on up to £500,000 tax-free if they leave their home to their children or grandchildren. For married couples or civil partners, the combined allowance could be as high as £1 million.

How to Calculate Inheritance Tax

Here’s an example to illustrate how inheritance tax is calculated:

Let’s say your estate is worth £850,000, and you plan to leave your home (valued at £300,000) to your children. Here’s how IHT would be calculated:

• Nil Rate Band: £325,000

• Residence Nil Rate Band: £175,000

• Total tax-free allowance: £325,000 + £175,000 = £500,000

• Taxable estate: £850,000 - £500,000 = £350,000

• IHT payable: £350,000 x 40% = £140,000

In this scenario, inheritance tax of £140,000 would be due on your estate.

When is Inheritance Tax Paid?

Inheritance tax is usually paid by the executor of the will, using funds from the estate. The tax must be paid within six months of the person’s death. If it isn’t paid on time, interest may be charged on the amount owed.

In some cases, if the estate contains property or other non-liquid assets, it’s possible to pay inheritance tax in instalments over ten years. However, interest will still be added to these payments.

Ways to Reduce Inheritance Tax

Fortunately, there are strategies you can use to reduce the amount of inheritance tax your estate will owe:

1. Gifting

You can give away assets during your lifetime to reduce the value of your estate. Gifts made more than seven years before your death are generally exempt from inheritance tax. However, if you pass away within seven years of making a gift, the recipient may have to pay tax on it. This is known as the seven-year rule.

2. Use of Trusts

Setting up a trust can help remove assets from your estate such as a bare trust, reducing the amount of inheritance tax owed. Trusts can be used to provide for children, vulnerable beneficiaries, or future generations while keeping the assets outside of your taxable estate.

3. Charitable Donations

Any money left to charity is exempt from inheritance tax. Additionally, if you leave at least 10% of your estate to charity, the IHT rate on the rest of your estate can be reduced from 40% to 36%.

4. Gifts to Spouses or Civil Partners

You can pass on your entire estate to your spouse or civil partner tax-free. Inheritance tax does not apply to transfers between spouses or civil partners, and they can also inherit any unused tax-free allowance, doubling their own threshold when they pass away.

What Happens if You Don’t Pay Inheritance Tax?

If inheritance tax is not paid on time, HMRC may charge interest on the outstanding amount. In addition, the estate could face legal action to recover the tax owed. The executor of the will is responsible for ensuring that the tax is paid, so it’s important to work with a solicitor to ensure all deadlines and tax obligations are met.

Conclusion

Inheritance tax can take a significant portion of your estate, but understanding how it works and using effective planning strategies can reduce or even eliminate the amount owed. Whether you are looking to protect your assets for your family or minimise the tax burden on your estate, it’s essential to work with a professional solicitor or financial adviser to ensure your estate plan is optimised for tax efficiency.

If you’re concerned about inheritance tax or want advice on how to plan your estate effectively, get in touch with our expert estate planning team today.