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Many believe this to be an unfair tax, arguing that after paying tax on their income and spending during their lifetime they now have to pay tax again on death.

Article by Akwasi Duodu

10 ways to avoid inheritance tax in the UK

With more and more people breaching the IHT threshold, finding ways to avoid inheritance tax is becoming a crucial part of the financial planning process. Receiving a large inheritance tax (IHT) bill can be a daunting prospect. For those with substantial estates, the potential tax burden can be significant.

Many question the fairness of this tax, given that it’s essentially levied on assets already subjected to a lifetime of taxation. Whether you view it as a necessary part of fiscal policy or an unjust “death tax”, the reality remains that IHT can take a significant chunk out of your estate. However, there are multiple ways to avoid inheritance tax or significantly reduce its impact.

What is inheritance tax?

Before delving into the ways to avoid IHT, it’s essential to understand how it operates. Essentially, IHT is a tax on the estate (property, money, and possessions) of someone who’s died. The current tax-free threshold, or “nil rate band”, is £325,000. Estates valued above this threshold may be taxed at 40%.

Given this potential financial impact, it’s no surprise many seek ways to reduce inheritance tax.

Can IHT be avoided?

Yes, it is legal to avoid inheritance tax through legitimate means such as gifting, using trusts, and taking advantage of exemptions and reliefs. However, there’s a difference between tax avoidance (legal) and tax evasion (illegal). It’s essential to follow the rules and seek professional advice to ensure compliance.

What are the different ways to avoid inheritance tax?

As detailed above, if your estate is large enough, your beneficiaries may be charged inheritance tax after you die. Many believe this to be an unfair tax, arguing that after paying tax on their income and spending during their lifetime they now have to pay tax again on death.

Whatever you believe, you have two choices. Acceptance or action. here are 10 effective ways to help you avoid paying inheritance tax.

1: Gift your house to your children

Gifting your house to your children can be a strategy to avoid inheritance tax. However, this is fraught with problems, so it is important to seek professional advice to understand the implications.

At face value, this strategy seems simple – transfer your property’s ownership to your children. However, there are numerous underlying complexities. For instance, for the gift to be wholly exempt from IHT, you need to outlive the transfer by seven years.

Moreover, if you continue residing in the property without paying rent, you might confront the “gift with reservation of benefit” rules which can bring its own set of challenges and tax implications.

Related reading: Can I gift my home to my children to avoid inheritance tax?

2: Make use of the spouse exemption

Leaving assets to your spouse or civil partner is another way to avoid inheritance tax. This exemption allows your surviving spouse to use their own inheritance tax allowance, effectively doubling the amount of your assets that can be passed on tax-free.

3: Benefit from the residence nil-rate band

The residence nil-rate band offers an additional inheritance tax allowance when you leave your home to direct descendants. This band, currently at £175,000 per person, could significantly increase the threshold and provide additional tax relief.

This was introduced to further alleviate the IHT burden, especially concerning family homes. When combined with the standard nil-rate band, a significant portion of an estate can be passed on free of tax.

4. Consider equity release to avoid inheritance tax

If you meet the qualifying criteria, equity release offers those who qualify the opportunity to unlock cash from your property.

Equity release has gained traction among the older generation, especially those who find themselves asset-rich but cash-poor. By opting for an equity release scheme, you can unlock a portion of your property’s value while continuing to reside in it.

There are two primary types: lifetime mortgages and home reversion. With a lifetime mortgage, you borrow money against your home’s value and it’s paid back, with interest, when the house is sold, typically after you pass away or move into care. In contrast, home reversion involves selling a part or all of your home in exchange for a tax-free lump sum or a regular income, while retaining the right to live in it.

Both options will effectively reduce the value of your estate, and consequently, the potential inheritance tax that might be due.

Sound interesting? Read our article on whether equity release be used to reduce your inheritance tax bill.

5: Use trusts to avoid or reduce IHT

Placing assets in a trust removes them from your taxable estate, allowing you to benefit from them during your lifetime and pass them on to future generations while reducing tax.

When it comes to trusts, there are a range of options to cater to various needs. From discretionary trusts, where the trustees have discretion over how to use the trust’s income, to interest in possession trusts, where beneficiaries have a right to the trust’s income but not necessarily its assets, the options are vast.

Trusts can not only shield assets from IHT but can also provide ways to protect family wealth, control assets distribution, and support beneficiaries who might not be financially savvy. However, the rules surrounding trusts are complex and establishing one requires adherence to specific tax regulations and legal requirements.

If you need the advice of a specialist, find out more about our estate planning services today.

6: Explore life insurance options

Life insurance isn’t just about ensuring financial support for your dependents upon your demise. It can be strategically used as an IHT planning tool. By setting up a whole-of-life insurance policy and writing it into a trust, its payout can be excluded from your estate’s value for IHT purposes.

This means when the policy pays out, it could provide beneficiaries with a lump sum that could be used to settle the IHT bill, thus ensuring that core assets like family homes don’t need to be sold to pay the tax.

7: Make gifts out of income

Regularly gifting surplus income could reduce your inheritance tax bill. This approach could help to gradually reduce the size of an estate, and therefore often used to avoid inheritance tax.

However, there’s a distinction between gifting from your capital and gifting out of surplus income. The latter, if done regularly as part of your normal expenditure without affecting your standard of living, is immediately exempt from IHT.

This can include helping with a grandchild’s school fees or setting up a monthly financial gift to a family member. Documenting these gifts meticulously is vital to demonstrate their regularity and the source of income they come from.

8: Consider business property relief (BPR)

Investing in certain business assets, such as shares in unquoted companies and qualifying business property, could provide business property relief. This relief either exempts or reduces the taxable value of these assets, making it an attractive strategy for mitigating inheritance tax.

However, it’s crucial to understand which assets qualify. For instance, shares in a qualifying unquoted company might get 100% relief, while land, building, or machinery owned by the deceased but used in a business they were a partner in could get 50% relief. However, there are conditions to be met, like the minimum ownership period.

9: Explore relocation opportunities

Relocating to a country with more favourable tax rules, such as Portugal or Spain, could help reduce inheritance tax. However, careful consideration of costs and compliance with the regulations is essential when considering this strategy.

10: Use the annual gift exemption to reduce inheritance tax

Taking advantage of the annual gift exemption allows you to gift up to £3,000 each year without incurring inheritance tax. This cumulative allowance can be used to pass on substantial amounts over time, providing a tax-efficient way to benefit your loved ones.

Beyond the £3,000 limit, small gift exemptions also exist. For example, you can give away gifts worth up to £250 to as many people as you wish in a single tax year, provided you haven’t used another exemption on the same person. Over several years, these amounts can compound into significant transfers, all working towards reducing potential IHT.

Room for one more?

11. Consider charitable donations

Making charitable donations during your lifetime or including them in your will can reduce inheritance tax liability. Gifts to charity are exempt from tax, allowing individuals to reduce the taxable value of their estate while supporting causes they care about.

Looking for ways to avoid inheritance tax?

So there you have it – a whole host of effective ways to avoid inheritance tax in the UK.

Engaging the services of an inheritance tax planner is crucial for proper guidance tailored to your specific circumstances. A qualified professional would help review your estate planning arrangements, identify areas for improvement, and ensure compliance with the relevant laws and regulations.


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