Inheritance Tax – How To Make The Most Of Your Tax-Free Allowance

A tax-free allowance introduced in 2017 to help people who wish to leave their family home to their loved ones is set to increase again next year taking the total tax free allowance for a couple to £1 million.

Below we have outlined the Residence Nil Rate Band system and how you can prepare your Will to make the most of this tax-free allowance.

Recently, the inheritance tax system has come under serious scrutiny, leaving many grieving families with large tax bills to deal with. While the Nil Rate Band allowance – the amount of wealth you can pass on free of inheritance tax – has not increased since 2009, the average UK house price has amplified by more than 40 per cent in the same period.

This increase means more and more families have become liable for inheritance tax, leading to the Government introducing the Residence Nil Rate Band in 2017.

What is the Residence Nil Rate Band?

At present, inheritance tax is charged on the value of your estate – which includes your property and possessions, savings and investments, life policies, business interests and assets held abroad – when you die. Where you own assets jointly, the value of your share in these is included.

The inheritance tax threshold for an individual is currently set at £325,000, which is also known as the Nil Rate Band. No tax is payable on the value of a person’s estate up to this threshold, however, the value of an estate over this threshold is currently taxed at the rate of 40 per cent.

For any deaths that have occurred since 6 April 2017, executors may have been eligible to claim an additional inheritance tax threshold known as the Residence Nil Rate Band. In general terms, the Residence Nil Rate Band is available where the deceased leaves a residence – a property that has been occupied by the deceased – directly to lineal descendants (children, grandchildren, adopted children, stepchildren and foster children).

How much is the Residence Nil Rate Band?

The amount of this allowance depends on the date of death and is limited to the value of the deceased’s interest in a single property. For deaths that occurred in the tax year 2017/18, the Residence Nil Rate Band started at £100,000 – this will increase to a maximum of £175,000 for deaths that occur in the tax year 2020/21.

When combined with the Nil Rate Band, this can be a valuable relief. For deaths now, the maximum total tax-free allowance for an individual is £475,000 – that’s £325,000, plus £150,000 additional residence allowance. For a couple, the maximum total tax-free allowance for them together is £950,000 – that’s £650,000, plus £300,000 additional residence allowances.

This will increase to a total maximum tax-free allowance for a couple of £1 million, where the survivor dies after 6 April 2020.

How do I qualify for the allowance?

To qualify for the allowance, lineal descendants must inherit directly. Be aware that the existence of a Trust may prevent direct inheritance, therefore, any arrangement where a descendant does not inherit immediately should be considered carefully.

For example, Mr and Mrs Smith’s estate totals £950,000, which includes their £300,000 home. The couple leaves their entire estate to their two grandchildren, with the Will stating that they shouldn’t receive their inheritance until they are 30 years old.

The value of the estate – excluding Mr and Mrs Smith’s home – is worth £650,000, therefore, not exceeding the inheritance tax threshold for them both. However, because the grandchildren’s inheritance has been deferred, a Trust has been created and they do not inherit the property outright.

This means that the Residence Nil Rate Band cannot be claimed, and inheritance tax will be payable in respect of the value of the property. Of course, some families may prefer to defer the age that the beneficiaries can receive their inheritance because they do not consider them to be mature enough. However, it’s important that they understand the tax consequences of this.

What do I need to do?

We recommend that you dust off your old Wills to make sure they still reflect your wishes and to ensure that, where possible, you make the most of any available inheritance tax allowances.

It is important that you review your Will, especially if you have prepared Wills that leave assets into a Trust, such as a Nil Rate Band Discretionary Trust. These types of Will Trusts were commonly made before the introduction of the transferable Nil Rate Band between spouses.

Residence Nil Rate Band

How Nelsons can help

Helen Salisbury is a Partner in our expert Wills, Trusts and Probate team.

For more advice on Residence Nil Rate Band or any related queries, please contact Helen or another member of the team in Derby, Leicester or Nottingham on 0800 024 1976 or via our online form.