Ways in Which You Can Avoid Paying Inheritance Tax

Inheritance tax (IHT) in the UK can be a significant financial burden on the beneficiaries of an estate. However, with careful planning and strategic measures, it is possible to legally minimise or even avoid paying inheritance tax. Here are some key strategies to consider:

1. Understand the Thresholds and Rates

First, it is essential to understand the thresholds and rates for inheritance tax. As of the current tax year, estates valued at over £325,000 are subject to a 40% inheritance tax on the amount exceeding this threshold. However, this threshold can increase to £500,000 if you pass on your home to your children or grandchildren. Couples can combine their thresholds, potentially allowing up to £1 million to be passed on free of IHT.

2. Make Use of Exemptions and Reliefs

There are several exemptions and reliefs available that can significantly reduce the amount of inheritance tax due:

• Annual Exemption: You can give away up to £3,000 each tax year without it being added to the value of your estate. If you didn’t use this allowance in the previous tax year, you can carry it forward, giving you a total of £6,000.
• Small Gifts Exemption: Gifts of up to £250 per person per tax year are exempt from IHT.
• Wedding or Civil Partnership Gifts: Parents can give a wedding or civil partnership gift of up to £5,000 tax-free. Grandparents can give up to £2,500, and anyone else can give up to £1,000.
• Regular Gifts Out of Income: If you make regular gifts from your surplus income, and these gifts do not affect your standard of living, they can be exempt from IHT.

3. Utilise Trusts

Setting up a trust can be an effective way to manage your estate and potentially reduce IHT liability. Trusts allow you to transfer assets out of your estate while still retaining some control over how they are managed and distributed. There are various types of trusts, including:

• Discretionary Trusts: These give trustees the discretion to decide how to distribute the income and capital among the beneficiaries.
• Bare Trusts: The beneficiary has an absolute right to the trust’s assets and income.
• Interest in Possession Trusts: The beneficiary has the right to receive income from the trust but not the capital.

Each type of trust has its own tax implications and advantages, so it is essential to seek professional advice to determine the best option for your circumstances.

4. Gifting During Your Lifetime

Gifting assets during your lifetime can help reduce the value of your estate and therefore your IHT liability. The key is to survive for seven years after making the gift for it to be completely exempt from IHT. This is known as the “seven-year rule.” If you die within seven years of making the gift, the value of the gift is added back to your estate, but taper relief may reduce the tax owed if the gift was made more than three years before death.

5. Use of Life Insurance

Taking out a life insurance policy written in trust can provide a lump sum that can be used to pay the IHT bill, ensuring that your estate does not have to be sold off to cover the tax. The proceeds from a life insurance policy written in trust are not considered part of your estate and are therefore not subject to IHT.

6. Business Property Relief and Agricultural Relief

If you own a business or agricultural property, you may be eligible for Business Property Relief (BPR) or Agricultural Relief, which can reduce the value of these assets for IHT purposes by up to 100%. This relief is available for qualifying business assets, shares in unquoted companies, and agricultural property.

7. Charitable Donations

Leaving part of your estate to charity can reduce your IHT liability. Gifts to registered charities are exempt from IHT. Additionally, if you leave at least 10% of your net estate to charity, the rate of IHT on the remaining estate is reduced from 40% to 36%.

Conclusion

By understanding the thresholds and exemptions, utilising trusts, making lifetime gifts, and taking advantage of reliefs, it is possible to significantly reduce or even avoid paying inheritance tax in the UK. Each individual’s circumstances are unique, so it is crucial to seek professional advice tailored to your specific situation to ensure that your estate planning is both effective and compliant with the law.