Money Matters

The new Conservative/Liberal Democrat coalition has introduced some sweeping tax changes this week, but conspicuous by its absence was the Tories’ proposed increase in the Inheritance Tax threshold from £325,000 to £1 million.Yet, anyone worrying about Inheritance Tax should be aware that it is one of the easiest taxes to avoid and only a minority of estates need pay it.

I spoke to Ben Smaje, managing director or Kennedy Black Wealth Management this morning and he pulled together a few of the most straightforward and effective ways to avoid paying IHT which I wanted to share with Money Matters readers:

He makes the point that first £325,000 of an estate (also known as the “nil rate band”) is free from IHT, and says that a recent rule change means that passing an estate to a spouse is now completely free of IHT and both tax-free allowances can be used on the surviving spouse’s death. Therefore, in reality, only estates in excess of £650,000 are likely to incur IHT.

However, with some advanced planning, estates well above this amount need not pay any IHT at all.

Mr Smaje outlines some relatively straightforward tips to help you to avoid IHT:

● The first and perhaps easiest step in avoiding IHT is to write a will. A will is perhaps the easiest way to avoid IHT problems on death. The laws of intestacy are clumsy when it comes to IHT. You will also make life considerably easier for your descendants;

● Take out a Whole of Life assurance policy written under trust. Such a policy will pay a lump sum on death, but because it is written under trust that lump sum is not considered part of the estate. Hence, the premiums paid are effectively a transfer of assets from within the estate to outside the estate, and no IHT is due;

● Set up pension arrangements under ‘Spousal Bypass Trusts’. A spousal bypass trust also avoids IHT being payable on the assets within your pension. On death, instead of transferring to your spouse, the pension is transferred into a trust for the benefit of, say, your children. The surviving spouse does not have access to the assets directly but can borrow from the trust, with the loan being written off on his or her death. Not only does the pension fall outside of the estate, but the loan reduces the value of the estate of the surviving spouse, thereby reducing his/her IHT bill as well;

● Gifts of up to £3,000 can be made per recipient per year without any IHT implications;

● Yet regular payments out of income without a reduction in your standard of living are also exempt for IHT purposes;

● And importantly, one-off gifts can be made in excess of £3,000 and while there is a seven year survival period in order to avoid IHT, the IHT liability tapers down from year three. Furthermore, the recipient is entitled to take out a life assurance policy that matches the potential IHT exposure. The premiums on such a policy will inevitably be lower than the IHT payable, so the seven year survival period really should not be a major consideration.

Only 15,000 estates actually paid IHT last year (i.e. the top 3 per cent). Hence, keeping the nil rate band at £325,000 should not have any real effect on the vast majority of estates.