Inheritance Tax update

Monday 22nd October 2007

Over the last few years inheritance tax has become a popular topic in the media, mainly because the amount which you can give away on your death free of tax – called the ‘nil rate band’ – has failed to keep up with rising house prices.

Only a few weeks ago, the Conservative party proposed raising the nil rate band allowance to £1m, to popular approval. In retaliation, the Chancellor boasted in his pre-Budget speech that: “I will raise the total amount of inheritance for married couples on which no tax is paid”. At first glance, you might think Mr Darling has been very generous. Unfortunately, this is not quite the case.

What has changed?

Well, perhaps we should start with what has not changed. The Government has not increased the nil rate band tax free amount, as Mr Darling suggested in his speech. This has remained at £300,000 for the 2007/2008 tax year and will increase to £312,000 per person from April 2008, in line with previous announcements.

What has changed is the rules on how the tax free allowance can be used when a husband, wife or civil partner dies. Transfers of property between spouses and civil partners are generally exempt from inheritance tax. This means that if an individual dies and leaves some or all of their estate to the surviving spouse or civil partner, they may not have fully used their tax free allowance.

Before 9 October 2007, the knock on effect of this was that the surviving spouse or civil partner would pay more inheritance tax on their death, as they would only have the use of one nil rate band allowance.

Following 9 October 2007, the unused allowance of the first spouse or civil partner to die can now be transferred to the surviving widow, widower or civil partner. This is a welcome change and simplifies inheritance tax planning for married couples and civil partners, as prior to 9 October the usual way to ensure both spouses’ tax allowances were used was via complicated Wills structures.

The amount of the transferable nil rate band will be a proportion of the allowance which is not used on the first death. So, for example, if Mr Smith died in January 2000 and left all of his estate to Mrs Smith, 100% of his nil rate band is therefore available on Mrs Smith’s death.

If she was to die in March 2008, her executors could use not only her £300,000 of allowance but also 100% of Mr Smith’s allowance, a further £300,000. You will see that Mrs Smith’s death has to fall after 9th October 2007 and that Mr Smith’s transferred allowance is calculated as that at the time of Mrs Smith’s death, not his own.

What does it all mean?

If you have an existing Will which includes inheritance tax planning measures, you may be assured that these remain perfectly effective for saving inheritance tax. Most of these Wills will save the tax by setting up a trust on the death of the first spouse or civil partner to die.

Where this is the case, you may wish to change your Wills if you feel that the downsides of keeping the trust (e.g. costs of setting up and running the trust) outweigh the benefits of retaining the trust structure (e.g. the protection of family assets).

Every person’s situation will be different and you should decide on how best to proceed based on your own circumstances. The personal law team at Gordons would be more than happy to discuss how the new rules affect you, or provide you with advice in relation to succession or tax planning issues. If you do have any queries, please do not hesitate contact one of the personal team on 0113 2270100.

NB Detailed guidance has yet to be published by the Government on these proposals. Once the Government has issued more detailed guidance this article will be updated