5 highly useful ways you can reduce the Inheritance Tax payable on your estate

With Inheritance Tax (IHT) receipts reaching record highs in the 2022/23 tax year, you’ve perhaps never been more likely to leave your loved ones with a bill when you pass away.

IHT is a tax on the estate, including possessions, money, property, and some lifetime transfers, of someone who has died.

Yet, despite an increasing number of people facing tax, more than a quarter of high net worth individuals do not currently have any measures in place to address an IHT liability, Professional Adviser reports.

Considering that MoneyAge reported that IHT receipts reached £7.1 billion in 2022/23 – a total that’s expected to rise even higher in future tax years – identifying ways to mitigate IHT is so important.

So, read on to discover five useful ways of mitigating IHT so your beneficiaries can receive more of your estate without facing tax.

1. Make full use of your nil-rate bands

Before your beneficiaries will face IHT, you do have a tax-free threshold called the “nil-rate band”.

The IHT nil-rate band for the 2023/24 tax year is £325,000 and will remain at this level until at least 2028; it has been at this level since 2009. If the total value of your estate, including everything listed above, is below this threshold, your estate will not usually be liable for IHT.

You can also combine your nil-rate band with your spouse/civil partner, meaning you may be able to pass on up to £650,000 tax-free between you.

Furthermore, you may be able to use an additional tax-free threshold, called the “residence nil-rate band,” if you leave your main home to your direct descendants, such as your children or grandchildren.

This band is the lower of the property value, or £175,000, and is in addition to the general nil-rate band. Like the nil-rate band, the residence nil-rate band is frozen until 2028.

In total, that means you may be able to pass on up to £500,000 to your beneficiaries before they face a tax charge, or £1 million alongside your spouse/ civil partner.

By making full use of these thresholds, you could reduce the amount of IHT your beneficiaries may face.

However, it is worth bearing in mind that as a high net worth individual, the residence nil-rate band is tapered by £1 for every £2 that your estate exceeds £2 million. So, if you have an estate of £2.35 million or more, you may not be able to benefit from the residence nil-rate band.

One often overlooked point is that assets that are subject to an IHT exemption, such as business property relief or agricultural relief, are included in the value of the estate for the purposes of tapering the RNRB. The value of the estate does not include pensions.

2. Utilise your gifting allowances

If you are looking to reduce your loved ones’ IHT liability, gifting can be an effective way to achieve this. There are certain tax-free gifting allowances that you can use to do so.

For instance, you benefit from an annual gifting exemption of £3,000 (2023/24 tax year). You can also carry forward any unused allowance from the previous tax year. This means you could make a gift of up to £6,000 now and it could immediately fall outside the value of your estate.

You can also combine this allowance with your spouse/ civil partner, meaning you could pass on as much as £12,000 in a single tax year if neither of you has used your allowance from the previous year.

Additionally, there are a few other ways in which you could gift to loved ones or family members, including:

Each tax year, you can give a tax-free gift to someone who is getting married or entering a civil partnership. You can give up to £5,000 to a child, £2,500 to a grandchild, or great-grandchild, and £1,000 to any other person.
You can make as many small gifts up to £250 as you like, provided you have not used another allowance on the same person.
You could also gift to charities or political parties. These gifts will fall outside of your estate for IHT purposes too.
Gifts out of surplus income after tax. You can theoretically gift an unlimited amount of surplus income as long as the gift is part of your normal (i.e. typical or habitual) expenditure, the gift is made from your after tax income, and you retain sufficient income to maintain your usual standard of living.

3. Consider making potentially exempt transfers

Typically, some gifts you give may fall outside the value of your estate if you survive for seven years after making them. Such a gift is known as a “potentially exempt transfer” (PET).

Making PETs to your family or loved ones earlier in life can often have two major benefits. Firstly, the gift will fall out of your estate for IHT purposes if you survive for seven years after making it. This is more likely to happen if you gift at a younger age.

Furthermore, the person receiving the gift may receive it when it’s more financially valuable to them.

For instance, gifting to a young adult now could enable them to buy a home, while gifting on your death might mean your children are in their 50s or 60s when they receive their inheritance.

We can use sophisticated cashflow modelling to establish how making gifts now could affect your progress towards your own financial goals, both now and in later life.

Indeed, knowing the impact of any gift can give you the peace of mind and confidence to give money to your loved ones without damaging your long-term financial prospects.

It’s important to note that gifts may become taxable if you die within seven years of making them.

4. Leave a charitable legacy

Making charitable gifts is another way to reduce the amount of IHT your estate is liable for.

Indeed, gifts to qualifying charities are exempt from IHT, no matter the value. Additionally, you may benefit from a lower rate of IHT (36%) if you leave at least 10% of your net estate to charity.

By leaving a charitable legacy, you can help support your favoured charities and, at the same time, help your loved ones pay less tax on their inheritance when you die.

5. Place your assets in a trust

By placing assets within a trust, you can potentially remove them from your estate. This may well then reduce your IHT liability, although be aware that assets in trust may still be liable for IHT.

In addition, in some cases, you could still be able to take an income from assets that you have placed in a trust.

It’s important to note that there is more than one type of trust and placing assets in trust is an irreversible decision. So, it is well worth understanding what steps you are taking before proceeding.

Speaking with a financial planner could be beneficial as they will help you understand your financial circumstances and act as a sounding board for any decisions you make.

Get in touch

If you’re concerned about a potential IHT liability and what you can do to help reduce how much tax your loved ones may face upon your death, speak to a financial planner.

We’ll help you understand your financial circumstances, devise an estate plan, and act as a sounding board for your decisions. Email [email protected] or call us on 01625 466360.

Please note

The Financial Conduct Authority does not regulate estate planning, tax planning, or will writing.