The 3 myths that could be costing you a large Inheritance Tax bill
As the saying goes, death and taxes are the only certainties in life, so why are we still struggling to plan for them? Especially when combined they can make for one of the costliest of pitfalls.
While many perhaps prefer to look on the brightside, and they may have decades left to live yet so don’t recognise that planning the end of their lives is a priority, we find that others seem to fall foul of a few common misconceptions - so we’ve highlighted three of them here and how avoiding them could also mean saving yourself a large bill too!
- Putting your house in the name of children will get around Inheritance Tax
This really is at the top of our list as it is perhaps one of the most common misconceptions. Transferring legal ownership of your home is not as easy as you might think it is. It would be known as a “gift with reservation” - in other words, you give away an asset but continue to benefit from it, usually because you remain living there.
In order for your home to be exempt from IHT, you would need to live for 7 years or more AND pay market rent to the home’s new owners. This would include drafting up an official rental agreement and regular rent increases in line with market value - HMRC would want to see evidence of this.
Residence Nil Rate Band
If you are passing your family home to direct descendents, you could qualify for the Residence Nil Rate Band (RNRB) which gives an enhanced IHT threshold of £175,000 in addition to the standard £325,000, meaning you can pass on up to £500,000 of the value free from IHT. This doubles for those who are married or in civil partnerships - so you could pass on up to £1 million of the value of your home to children or grandchildren before IHT is applied
- Thinking you don’t need a will
You do! Even if you’re married or in a civil partnership, but even more so if you are just cohabiting - see point 3 below! Do not assume that your estate will be left to spouses or children when you die and therefore you don’t need a will.
If you die without a will - called dying “intestate” - the decision of who benefits from your home and other belongings falls to the state.
Surviving spouses or civil partners will get the first £270,000 of the estate and then half of anything above that, children or grandchildren will be entitled to the other half. However, you might feel as though you’d like your spouse to inherit a majority of your wealth so that they are financially secure, or indeed any children should benefit before grandchildren. That decision will be taken away if you die without a will. As you can imagine this can cause a lot of upset for all the family.
Remember that even if your estate passes to direct descendants, if it is worth more than £325,000 they will be charged IHT at 40% - so you need to understand the tax implications and options to consider what is best for your family. By making a will, you can make sure your assets are passed down in the most tax efficient way, and ultimately, you keep control of who benefits from your estate.
- Cohabiting is not the same as marriage
Yet another common myth is that once you’ve lived together for a certain amount of time, couples have the same rights as those who are married or in a civil partnership. This is simply not true and if you’re cohabiting it’s even more important that you have a will.
If your partner dies without a will, the surviving partner will be left with little or no protection as their estate will be divided through siblings, parents, children, or grandchildren. If the cohabiting couple has children, they may benefit from their estate, so in theory your child could be liable for a tax bill regardless of their age. Also, children inheriting doesn’t offer any security to a surviving partner and while they could go to Court and argue for a share of the estate, without a will, nothing is guaranteed.
The only way to avoid paying more IHT than you need to is to plan ahead. Get your will drafted, put it in a drawer and review it every so often. It’s also worth thinking about drafting a Lasting Powers of Attorney (LPA) document at the same time as you make your will. This is to make sure loved ones can step in and pay bills, access bank accounts or communicate any medical treatment you wish to receive on your behalf if you lack mental capacity to make these decisions in your lifetime.
If you would like some advice relating to wills or LPAs, contact Downs Solicitors to see how we can help.