Why Do I Need To Plan My Estate?
Everything under the £350,000 limit is called the ‘nil-rate band’. Married couples and registered civil partners can share their thresholds, with the unused element of their tax-free allowance rolling over to their surviving spouse when they die. This means a married couple or couples registered in a civil partnership, have a joint ‘nil-rate band’ of £650,000.
The New Residence Allowance
In April 2017 an extra allowance was introduced by the Government stating that when a residence is passed to a ‘direct decendant’ it is known as the residence nil-rate band (RNRB), and like the standard nil-rate band, unused elements of the allowance roll over to a surviving spouse or civil partner.
Last financial year, (the 2017-18 tax year), the RNRB was £100,000 per person meaning a married couple with children can leave a maximum of £850,000 in total, exempt of inheritance tax. Any excess is then taxed at 40%.
The RNRB are set to rise in increments to £175,000 by April 2020. After this, couples will be able to free to leave up to £1m tax free when they die.
In addition to nil-rate bands there are a number of tax relief strategies and exemptions that with careful estate planning, can be used to reduce your inheritance tax. However, many families fail to account for inheritance tax for many reasons including feeling uncomfortable talking about their wealth/estate or not liking talking about death.
However, if passing on your estate in the most financially savvy way is important to you, talking about inheritance is inevitable and important.
Here are the most important steps in planning your Estate:
1:Write a will
Writing a will is the most appropriate point of entry when estate planning. It is essential that you have an up-to-date will, to ensure your estate goes to who you choose and that all your wishes are carried out.
If you have a will already, it might be wise to make a review of it and make sure it reflects your current wishes regarding who should inherit what. In order to benefit from the residence nil-rate band, assets must be left to direct descendants. A lot of older wills hold assets in trust that might not reflect the most financially economical choices in current times.
Make sure you take legal advice.This is the only way to make sure your wishes are met and your wills are as tax-efficient as possible. Ask your advisor about making mirror wills with your spouse. This means leaving the estate to the other in the event of death. However, you might want to make a will that leaves selected assets to children or grandchildren.
Some people choose to make gifts from their estate whilst they are still alive. This can be beneficial for inheritance tax purposes, though only in certain circumstances. Here are the rules:
- Every year you are allowed to give away up to £3,000 which will not be subject to IHT, whenever you die.
- You can also give £250 to as many people as you like, each year.
- Parents are allowed to give £5,000 to each of their children as a wedding gift.
- Grandparents may give £2,500 per wedding and anyone else £1,000.
Gifts of any size are allowed to be made to charities or political parties. These will be tax free. If gifts are regular, come out of your wage and do not affect your standard of living, you can gift any amount of money without being liable for IHT.
Any other, larger monetary gifts must be made seven years before your death to be considered outside of your estate for IHT purposes. If you die within seven years and the gifts are worth more than the nil-rate band, taper relief will be applied which means the tax reduces on a sliding scale if the gift was made between three and seven years earlier.
Couples generally own their home as joint tenants. If one partner dies, the other automatically inherits the whole property. Others choose to be tenants in common. This means a set share of the property is owned by each. This enables each partner to leave their share of their property to someone other than their spouse. This might be because children are involved for example. In this case, an IHT bill can be reduced and long-term care costs can be avoided. However, it’s a complicated decision, and should be discussed by a financial expert.
Pensions are a tax efficient way to distribute your wealth upon your death. If you die before you reach 75, any benefits left in a money purchase pension can be left as a lump sum or drawdown income to any beneficiaries, no tax liable. After the age of 75 tax will be charged at the beneficiaries’ marginal income tax rate.
Other options include using other investments to provide a retirement income meaning that funds remain in your pension for as long as possible.
In effect, you can leave your pension to your children, and then they can leave it to their children and so on.
Trusts can reduce your inheritance tax bill and give you control over how your assets are used by future generations.
- Maintain a lump sum separate from your estate.
- Protect your children/grandchildren’s inheritance if your surviving spouse remarries
- Protect your children/grandchildren’s inheritance from their own divorces or separations.
- Avoid giving young children/grandchildren large amounts of money before they come of age.
Trusts however are complex matter. If you die within seven years of transferring parts of your estate into a trust, your estate could be liable to pay IHT at the full amount of 40%.5
A Life assurance policy can be put in place to either pay off or reduce a potential inheritance tax bill. As long as the policy is written into a trust, the proceeds do not count as part of your estate. Upon death, the policy pays the trust which contributes to all or part of the inheritance tax bill.
7: Discounted gift trusts
Discounted gift trusts are designed for people who want to gift money to a trust but draw a regular income for the rest of their lives. Whatever remains in the trust after death will pass onto any beneficiaries free of inheritance tax.
The trust works by purchasing an investment bond. This provides a tax efficient income of up to 5% until your death and should you live for seven years, the bond does not count as part of your estate.
Certain shares on the Alternative Investment Market (AIM), become tax free once you have possessed them for two years. This is because they qualify for Business Relief (BR). However, there are strict rules on what qualifies and this course of action could prove risky.
Enterprise Investment Schemes (EISs) also benefit from Business Relief after 2 years. EISs, invest in small, high-risk unquoted enterprises and offer a number of tax advantages. They are tax free on 30%, and provided you hold them for three years, there is no capital gains tax to pay either if you decide to sell.
If capital gains on other assets are realised, tax can be deferred by reinvesting them in an EIS. If held until death, the deferred gain is null and void. However, beware: EISs are very high-risk. You could lose a large part, or even all, of your capital. They are liquid assets and can be difficult to sell. Talk to a financial planner who can help ensure your estate planning is suitable for your needs.
A final note…
Estate planning can be complex but with the right, bespoke advice you can formulate a plan to best suit your family’s needs.