Inheritance tax (IHT) is an increasing concern for many people in this country due at least in part to escalating house values. Assuming no significant lifetime gifts of capital it is a tax that will impact on death if the value of an estate exceeds £250,000. The excess will be charged to IHT at 40%. The £250,000 is referred to as the ‘nil rate band’. Failure to use the nil rate band in effect costs £100,000 (£250,000 x 40%). Consider the following……
Mr and Mrs Jones live in middle England. They own a home (no mortgage) jointly as tenants in common and were surprised to discover on a recent valuation that it is worth £400,000. In addition they each have investments (shares, cash etc) worth around £100,000. They don’t plan any significant lifetime gifts of capital. They both have Wills the effect of which will be that everything passes to the surviving spouse on the first death and on the second death everything passes to their two adult children. Let us assume that Mr Jones dies first. There will be no inheritance tax to pay at this stage because gifts between spouses are exempt. Mrs Jones dies two years later worth £600,000. Her estate passes to the children and the inheritance tax payable at current rates amounts to £140,000. The problem arises because Mr Jones’ ‘nil rate band’ of £250,000 has not been used on his death.
There is a way of leaving all of your wealth directly to your spouse on death which still enables use of the £250,000 nil rate band. It can be done by each spouse writing a tax efficient Will requiring a discretionary Will trust with a ‘debt-charge’ arrangement. Such a Will is sometime referred to as a Loan Plan Will. In essence the plan works by leaving everything to the surviving spouse as before but in addition leaving £250,000, typically in the form of a charge on the house, to a discretionary trust. On the death of the first spouse there is no inheritance tax liability. On the death of the second spouse, his or her estate is reduced by the £250,000 owed to the trust. Such an arrangement for Mr and Mrs Jones would save £100,000 leaving an inheritance tax liability of £40,000. The children then inherit everything at a tax cost of £40,000 when Mrs Jones dies but she has had use of all the assets without restriction during her lifetime. She could have sold the house and purchased another one. Furthermore, a local authority cannot make a charge against any portion of your home owed to a trust should the surviving spouse need to go into long-term care.
Inheritance tax can be complex but often a simple technique such as the one described above can be very effective. £100,000 of potential tax saving on an estate of £600,000 is hard to ignore. We would welcome the opportunity to talk to you about inheritance tax planning.