Inheritance Tax - what you need to know - The Jewish Chronicle

Inheritance tax (IHT) is charged at a 40 per cent flat rate. It is paid if an individual’s estate — all their net assets, being property, money and possessions (including any non-exempt gifts made within the past seven years before their death) — is worth more than the IHT threshold when they die.

This IHT threshold (the “nil-rate” band) is £325,000 (fixed until April 2021). In general terms, if the value of the estate exceeds this and the estate is not left to a spouse or to a charity (and is not eligible for agricultural or business property relief or the complex additional residential nil-rate band), then the excess will be liable to IHT at 40 per cent. Therefore, if an estate is worth £1,000,000 on death, the tax charged could be as high as £270,000 (£1 million, less £325,000 x 40 per cent).

An unfortunately not uncommon situation occurs where a spouse tragically suddenly becomes seriously ill and no inheritance tax planning has been undertaken. Can anything be done to reduce the potential inheritance tax charge?

An example: Abraham and his wife Sarah have been married for a number of years and each has a will leaving all their assets to the other spouse. Abraham owns a commercial rental property that he bought (mortgage-free) for £100,000, but which is now worth £2.1 million. Sarah has been diagnosed with a terminal illness and has only a few months to live.

After the death of Sarah, assuming nothing was done, Abraham would continue holding the commercial rental property with a cost for capital gains tax purposes of £100,000. Any future disposal (ignoring any further increases in value) would result in a capital gain of £2 million, with (20 per cent) capital gains tax payable, of £400,000.

If, however, Abraham were to gift the commercial rental property to Sarah, this would not give rise to any capital gains tax, as it would be a tax-free “inter-spouse transfer”. On Sarah’s death, Abraham would inherit the commercial rental property for tax purposes at its market value of £2.1 million. There would therefore be no capital gains tax liability on a later sale (ignoring increases in value between the death of Abraham’s wife and the sale).

This example ingeniously combines inheritance tax with capital gains tax planning.

The capital gains tax part of the planning is specifically mentioned in HMRC’s guidance as acceptable, providing the donee (Sarah in our case) has full capacity at the time of the gift to her. HMRC goes so far as to say the gift could even be made on the day of Sarah’s death, providing the relevant documentation is validly completed before death.
Although not mentioned (and therefore not countenanced) in HMRC’s guidance, this capital gains tax market value uplift at death would allow Abraham (if he so wished) to gift the commercial rental property to his children with potentially no capital gains tax.
Also, providing Abraham lives for seven years after his gift to the children, this commercial rental property would fall outside his inheritance tax estate.
This is therefore a very effective tax-planning idea, which can produce both substantial capital gains and inheritance tax savings, albeit undertaken at the saddest of occasions. It must obviously be recognised that tax matters will usually be the last thing on a husband and wife’s mind at times like these, but the family would want to be aware of this.

Charles Pascoe is tax principal at BDO, charles.pascoe@bdo.co.uk, 020 7893 2469.

The above is not intended to be comprehensive or formal advice and is strictly without liability. Readers should consult an accountant on any matter concerning the above