Significant changes surrounding Inheritance tax come into force in April 2017, a new inheritance tax free allowance for family homes and stricter rules affecting residential properties held by non-doms in offshore companies.
As always with tax, the rules are complex, especially when trusts are involved and there are also some traps for the unwary.
The current rules on inheritance tax
Every person currently has what is called an inheritance tax nil rate band of £325,000. Inheritance tax is only paid, at a rate of 40%, on the value of the estate which exceeds this amount after any applicable exemptions and reliefs.
If a husband or wife leaves their estate to their surviving spouse, when the surviving spouse dies an increased nil rate band is allowed, of up to double, i.e. £650,000.
HMRC projections show that the Government expects the tax take from inheritance tax to raise significantly over the next few years. With rising house prices, up by 8.6% in the South East in the past 12 months, the value of estates continues to increase.
Introducing the ‘residence nil rate band’
To combat the effect of rising house prices, (and to make good on an election promise) the Government has introduced a residence nil rate band. From 6 April 2017 it will be £100,000 in addition to the ordinary nil-rate band, increasing incrementally over the next four years to £175,000 by 2021.
Conditions of the IHT residence nil-rate band
To qualify for the IHT residence nil-rate band, the following conditions must be met:
- the property must have been lived in by the individual or couple during their lifetime, however, it does not have to be their main residence
- the home can only be inherited by direct descendants, this includes step-children, adopted and fostered children, grandchildren, your surviving spouse or civil partner
Surviving spouses will benefit from the residence nil-rate band, as with the ordinary nil rate band, if they were left qualifying property. By 2021, married couples and civil partners will have a tax-free allowance for their estate of up to £1 million.
Complexities surrounding property held in trust
The rules are complicated but, in short, a property held in a discretionary trust will not benefit from the new residence nil-rate band even if lived in by the deceased person. If a property is held in a trust in which the deceased person was entitled under the trust terms to the income and to occupy property then the new residence nil-rate band may be available.
There are some complicated rules relating to when the new residence nil-rate band applies if a qualifying property is left in trust, for example to the deceased person’s children at a particular age. There are some traps here and you really need to be sure your Will is written to ensure it complies with the residence nil-rate band.
Homes valued over £2 million
The residence nil-rate band will reduce by £1 for every £2 the total estate is valued over £2 million even if the home is worth much less than this. It gets more complicated if part of the residence nil-rate band is unused when the first of a married couple die with tapering of the residence nil-rate band in the first person’s estate reducing the multiple available in the second person’s estate. The best option is to get advice tailored to your individual circumstances so you can plan your Will in the best way.
Non-domiciled residence and UK residential property
The second major change coming into force in April 2017 affects non-domiciled residents who indirectly own UK residential property, for example through offshore companies, sometimes referred to as corporate ‘enveloping’ or excluded property trusts. Up till now, these properties have been exempt from inheritance tax. From April, this last tax advantage of corporate enveloping will be removed, and inheritance tax on UK residential property will apply the same way it does to those living in the UK.
Those who hold UK residential property via a corporate structure, can ‘de-envelope’ the property but careful consideration needs to be given to the tax consequences and professional advice is essential.
At Burt Brill and Cardens we have experienced and dedicated solicitors that can advise you on the new inheritance tax rules and allowances. Speak to our Private Client team today and let us explain in more detail how we can help ensure your family trust and Will is drafted correctly to take advantage of the new residence nil-rate band. We can also advise on enveloped properties and de-enveloping. Call us now on 01273 604123.