Inheritance Tax will affect you and your children – what you need to know

Görkem Gökyiğit, 16 August 2022

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For the vast majority of parents, their children being the most important people in their lives, are their priority and many would say that they work hard to provide for their children.

It is therefore no surprise that lots of people would like to be able to leave their hard-earned cash to their family in the event of their deaths.

Parents and grandparents are also aware that it is much more difficult for their children and grandchildren to build wealth given living expenses and housing costs are significantly higher in relation to their income.

For this reason, they place importance on understanding the steps required to help the younger generation.

What is Inheritance Tax?

Inheritance Tax (IHT) is a tax applied to anything you own, including property, cash, investments and possessions, when you pass away. It can also apply on some gifts that you make during your lifetime.

There are some allowances and exemptions, however once those are used up or deducted, the IHT rate applied to your assets is 40%.

The UK has the 4th highest IHT rate in the world at a 40% tax rate, with the highest being Japan at 55%. During the tax year 2021/2022, HMRC received over £6 billion from IHT receipts alone.

Who is IHT aimed at?

IHT is aimed to tax the ‘rich’. In the 2019/20 tax year, 3.76% of all UK deaths resulted in an IHT charge. Sadly, with so many pre-mature deaths caused by COVID-19, we expect this percentage to be considerably higher in 2020/21. 

More people are having to pay IHT because property prices have increased so dramatically, especially in places like London. Despite living a relatively modest life, you may still find yourself with a potential IHT liability.

Foreign investors often don’t realise that IHT is due on any assets they own within the UK, if the value of the assets is above the acceptable allowances.

How do I work out if IHT would be due?

Typically, there is no tax due if:

  1. The value of your assets is below £325,000 (or £650,000 for married couples)
  2. You leave all your assets to your spouse or civil partner
  3. You leave your assets to registered charities
  4. If you give away your home to a direct descendant (i.e., children or grandchildren), then your threshold could increase to £500,000 (from £325,000)

How can I reduce the amount of IHT due in the event of my death?

There are various steps you can take to help reduce an IHT liability. These include, but are not limited to:

  • Spending it
  • Gifting your assets and income (subject to certain rules and an individual’s circumstances)
  • Putting money into a pension
  • Investing in IHT favoured investments

The dilemma people often face is wanting to gift assets to future generations but also the requirement of retaining sufficient reserves for later life. Establishing a Trust, along with a financial modelling exercise, could also prove to be beneficial in this case.

Another option would be to insure your potential IHT liability. While this does not actually reduce the IHT liability, it could provide your beneficiaries with sufficient capital to pay the IHT bill upon your death. The main drawback of this option is the cost of this type of life cover while you are alive.

What is the ‘right’ option?

Each option has its own benefits and drawbacks and financial advice is crucial to ensure that you make the right decision.

In our experience, a combination of the various options tends to strike the best balance between potential tax saving, costs, and any other objectives you may have. 

Intergenerational financial planning often creates invaluable benefits such as giving the younger generation a peace of mind and helps strengthen those crucial family relationships.

How can we help?

As Chartered Financial Planners, we can help you calculate your potential IHT liability and discuss the different steps you can take to help reduce this.

For further guidance on approaching issues regarding inheritance tax, please get in touch with Director, Andrew Tricker, or Chartered Financial Planner, Görkem Gökyiğit.