By Clare Munro, Tax Partner
The current government has a problem with inheritance tax (IHT) as, ideologically, it's as close to a wealth tax as we get in the UK. More importantly, the party faithful hate it. So, having failed to sweeten the IHT pill under the Coalition, it was virtually inevitable that the first Conservative Budget in 20 years would try to implement the long held ambition to take family homes out of inheritance tax.
Legislation is therefore now in place to do exactly that and HMRC has recently published more detail on the way the new residence nil rate band is expected to operate. We can therefore now say with some confidence that a £1m nil rate band per couple will apply ... at least for some. The deficit is acting as a brake on the government’s generosity so the new allowance comes with a full suite of catches and, as this article will show, for many families, IHT planning remains essential.
So what are the catches?
The new Residence Nil Rate Band or RNRB will add £175,000 to the current £325,000 on death, the additional allowance being available to reduce the value of the individual's estate by offset against the value of a property if that individual has, at some point, occupied that property as a residence. So no relief is available for lifetime gifts, and the estate of a person who only ever lived in rented accommodation would be denied the additional relief. Whilst not the most practical proposition, it does seem that, in such circumstances, a deathbed plan could include the individual buying and moving into a residential property shortly before death and claiming the relief.
Secondly, the relief is only available to people who leave their property to their children or grandchildren. This clearly rules out a whole section of the population who have no children but feel just as strongly about passing on their home to other friends or relatives.
The new rules take account of the fact that many people will have downsized or sold their home, maybe to move into care or sheltered accommodation, by the time they die. The Revenue's guidance confirms that, provided that the deceased has left the smaller property (that being the one they downsized to), or assets equivalent to the former residence, to their descendants, then the RNRB will still be available. Of course, the upper limit of £175k still applies.
Despite planning this relief for years, now that they have the chance to turn it into reality, the government is deferring the start until April 2017 and phasing the relief in over four years to 2020/21. Full relief is therefore only going to be available after this date. Nevertheless, if one of a married/civil partner couple dies before the relief is available, his or her entitlement can be transferred over to the surviving spouse or civil partner, so all is not lost.
However, perhaps the biggest catch of all comes from the limitation of scope to couples with combined estates of £2m or less. This relief is clearly intended to benefit people with moderate wealth, a large slice of which takes the form of their main residence. So, if the deceased's estate, net of liabilities such as a mortgage (but without taking into account other reliefs such as that for business property) is worth over £2m, then the RNRB will be reduced by £1 for every £2 of excess value. With the full RNRB at £175k, this means that people with estates of £2.35m will lose out altogether. For a 'survivor estate' which is entitled to a transferred nil rate band, the double RNRB means that the estate would need to be worth more than £2.7m before the RNRB was lost altogether. The current plan is that the £2m threshold will increase by the Consumer Price Index from 6 April 2021 onwards, although it remains to be seen whether the £1m aggregate nil rate bands will be raised in line with inflation too.
Overall then, the introduction of another type of nil rate band leaves many of us with some planning to do. Anyone looking to maximise IHT reliefs on death needs ideally to think in terms of managing their estate down to the £2m level. Old-style wills, many of which will still contain provisions for trusts, may need to be reworked to factor in the new rules. Gifts of residential property on an expected death before April 2017 should take account of the absence of RNRB prior to April 2017 as these could result in tax charges on value over the nil rate band. Many couples will own their residence as tenants in common rather than joint tenants; this strategy worked well prior to the introduction of a transferable nil rate band, but is less attractive now, and the introduction of the transferable RNRB may reduce the appeal of this ownership structure further.
Back to the deficit, the Chancellor has limited the tax reducing impact of this allowance by delaying its start and phasing it in over four years. Nevertheless, it will be available in full by the 2020/21 tax year which, by coincidence, is the year of the next General Election.
If you have any questions regarding your own IHT position, please do email me.