How many times have you been told that Inheritance Tax (IHT) could eventually wipe a large amount from the value of your estate on death, gone away, thought about it, and then done nothing about it? Or it may be the case that your parents are being advised of the problem, but take no action and the younger generation get a little frustrated.
In my experience, advising on IHT is as much about getting into the psyche of the client as much as understanding the financial problem and how to solve it. As much as a client may understand that the taxman could be a significant beneficiary after one’s death, it is often difficult to make important decisions during one’s lifetime, for many different reasons. This might be for worry of losing financial security, family reasons, or it just might be too big a decision to make.
Financial advisers can often tell you about the problem and come up with a textbook solution, but sometimes may not be so good at persuading you to take the correct positive action and do something about it.
I have found that planning of this type is something that evolves over a period of time and often in smaller bite sized chunks, rather than making huge financial decisions all at once. The adviser, whether solicitor, accountant or financial adviser will often need to give a friendly nudge to spark some action. The important thing is that one needs to feel comfortable and confident about making important financial decisions. If you have a long term and trusting relationship with your adviser this can make things much easier for you.
The best place to start is firstly to understand what the problem is. In a nutshell, if a married couple has joint assets valued at more than £650,000, then eventually, upon the second death Inheritance Tax is payable on the excess above £650,000 at a rate of 40%. So, for example, a £1 million estate could have a tax bill of £140,000.
There are a few useful allowances to help reduce this tax during one’s lifetime. I always try to encourage clients to utilise the smaller allowances to begin with and these include:
- You can each gift £3,000 per annum. If you haven’t used last year’s allowance, you can mop this up, making it £6,000 each straight away.
- There are exemptions for gifts to children or grandchildren getting married. £5,000 each person to children, or £2,500 each to grandchildren
- You can make regular gifts out of income, with no definitive limit. The general requirement is that the gift should be seen to be regular and out of income and also that the amount should not reduce the standard of living.
These smaller allowances can build up over time and make useful savings. Perhaps even more importantly, isn’t it nice to be able to help family members with generosity whilst you are still alive, and hopefully see the enjoyment this can bring, at the same time saving tax?
If the thought of making gifts directly causes concern, you can think about making gifts into trust; giving you more control over how and when the money is paid out.
Making gifts and using the smaller allowances is a good start. To help make a significant impact on the tax saved it is sometimes necessary to gift larger amounts. In general, you then need to live for 7 years for the value to avoid Inheritance Tax. For this reason it is better not to delay this type of planning for too long.
Larger gifts can be made outright to individuals but sometimes there can be reasons why this isn’t the best way – usually family problems. To get round this, a trust is often the way forward. This does not need to be complicated or expensive. A good family solicitor should be able to give good advice. Alternatively, there are some very good off the shelf trust products through insurance companies that can often provide a very good solution, usually offered through Independent Financial Advisers.
If your assets are valuable enough to get caught in the IHT trap, there is no doubt that making a Will is absolutely essential. My advice is don’t keep leaving it as we never know what’s around the corner.
It takes time to take the right action to reduce the Inheritance Tax burden and with the help of a trusted, knowledgeable and understanding adviser, this can be made a lot easier.
Paul Korobejko, ACII Dip PFS and Chartered Insurance Practitioner.