Inheritance tax explained by Interactive Investor expert
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Inheritance tax (IHT) is the most hated levy of all. It is imposed on grieving families, who have to work out what they owe and pay HMRC at an already difficult time. No wonder some call it the death tax.
Another reason people hate inheritance tax is that it is charged on wealth that has already been taxed during your lifetime.
It is also a punitive tax, charged at a thumping 40 percent on all of your assets, including your home, once they exceed a certain level.
The good news is that that with careful planning, you can cut the amount you give to HMRC, and give more to those you love.
Christmas is the ideal time to do that.
Inheritance tax is going to get more punishing in future, warned Becky O’Connor, head of pensions and savings at Interactive Investor.
That is because Chancellor Rishi Sunak has frozen the nil-rate threshold at £325,000 for the next five years.
O’Connor added: “Sunak has also frozen the £175,000 main residence nil-rate threshold for passing on family homes to direct descendants until 2025/26.”
The rules around inheritance tax can be hard to understand, and many people overpay as a result, said Stevie Heafford, partner at accountancy firm HW Fisher.
Now here’s the good news. “There are ways to legally ensure that you are leaving behind as much as possible to your relatives when the time comes. Planning is key – it’s never too early to do this.”
Start by making gifts during lifetime, Heafford said. “If you survive for seven years afterwards, the gift falls out of your estate for IHT purposes.”
Even if you do not live that long there is still a benefit, as the 40 percent charge starts to taper after three years.
You should also make use of your £3,000 annual IHT exemption. Gifts up to that level are instantly free of IHT.
If you did not use the exemption last year, you can carry that forward. Doing this would allow you to give £6,000 this Christmas, Heafford said.
Couples who have not used their exemptions could give £12,000 in total – saving a potential £4,800 in future IHT.
Heafford you can also make regular gifts out of “surplus income” with no IHT charge, but with one proviso. “You have to prove this money is not coming out of your capital.”
You could spread more good cheer this Christmas by using an IHT break that allows you to make small gifts of £250 to any number of people, unless they have already benefited from the £3,000 annual exemption.
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If one of your children is getting married, you can gift them £5,000 free of IHT. You can also gift £2,500 to a grandchild or great-grandchild on marriage and £1,000 to another relative or friend.
Again, planning is vital as this gift has to be made BEFORE the wedding and the wedding has to go ahead.
Families may want to take the opportunity to discuss IHT planning at festive gatherings (assuming Prime Minister Boris Johnson does not cancel Christmas again).
Heafford passes on another IHT-saving tip. “In retirement, use up investments such as Isas first, as pensions can be passed on free of IHT.”
If you do all that your family will thank you for your forward thinking and generosity – while the taxman will be going “Bah humbug.”
A word of warning. Don’t get swept away by the spirit of Christmas and gift money you may need in later life, say, for care fees.
You can be too generous, even at this time of year.
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