Inheritance Tax: Preserving Wealth for Your Family
Inheritance tax at 40% can take a significant chunk of what you leave behind. Understanding the thresholds and exemptions is the first step to effective estate planning.
The Basic Threshold
Everyone has a nil-rate band of £325,000. Your estate pays no IHT on the first £325,000 of value. Above that, the rate is 40%.
This threshold has been frozen since 2009 and is set to remain frozen until at least 2028. With property values rising, more estates are being caught by IHT each year.
The Residence Nil-Rate Band
If you leave your home to direct descendants (children, grandchildren), you may qualify for an additional £175,000 nil-rate band.
Combined: £325,000 + £175,000 = £500,000 potential IHT-free threshold for homeowners with children.
Married Couples and Civil Partners
Assets passing between spouses are exempt from IHT. And any unused nil-rate band can be transferred to the surviving spouse.
This means a couple can potentially pass on:
- £650,000 (two £325,000 nil-rate bands)
- Plus £350,000 (two residence nil-rate bands)
- Total: £1,000,000 IHT-free (if conditions are met)
But there are conditions. The residence nil-rate band tapers for estates over £2 million, reducing by £1 for every £2 above the threshold.
What's Included in Your Estate
IHT applies to the total value of:
- Your home (unless left to spouse)
- Savings and investments
- Property you own
- Possessions of value
- Payouts from life insurance (unless in trust)
- Gifts made within 7 years of death (with taper relief)
The 7-Year Rule
Gifts you make during your lifetime are called Potentially Exempt Transfers (PETs). If you survive 7 years after making the gift, it's completely exempt from IHT.
If you die within 7 years, the gift is added back to your estate—but taper relief reduces the tax:
| Years Before Death | Tax Payable |
|---|---|
| 0-3 years | 40% |
| 3-4 years | 32% |
| 4-5 years | 24% |
| 5-6 years | 16% |
| 6-7 years | 8% |
| 7+ years | 0% |
Annual Exemptions
Some gifts are immediately exempt:
- Annual exemption: £3,000 per year (can carry forward one year if unused)
- Small gifts: £250 per person per year (to any number of people)
- Wedding gifts: £5,000 to children, £2,500 to grandchildren, £1,000 to others
- Gifts from income: Regular gifts from surplus income (not capital) are exempt
- Charity: Unlimited gifts to registered charities
Gifts from income: This is powerful but underused. If your pension and other income exceeds your living expenses, you can give away the surplus regularly—and it's immediately outside your estate. Keep records to prove the pattern.
Pensions and IHT
Defined contribution pensions (like SIPPs) are generally outside your estate for IHT purposes. They pass via a nomination to your chosen beneficiaries.
If you die before 75, beneficiaries can draw the pension tax-free. If you die after 75, they pay income tax on withdrawals at their marginal rate—but no IHT.
This makes pensions one of the most tax-efficient assets to pass on. Some people deliberately draw from ISAs and other assets first, preserving their pension for inheritance.
Planning Strategies
Use Your Annual Exemptions
£3,000 per year might seem small, but over 10 years that's £30,000 (£60,000 for a couple) moved out of your estate.
Consider Trusts
Certain trusts can remove assets from your estate while retaining some control. Complex rules apply—professional advice is essential.
Life Insurance in Trust
A life insurance policy written in trust pays out directly to beneficiaries, bypassing your estate. The payout helps cover any IHT bill without increasing the estate's value.
Leave 10% to Charity
If you leave at least 10% of your net estate to charity, the IHT rate on the rest drops from 40% to 36%. For large estates, this can mean more going to both charity and family.
How Talk Through Wealth Helps
Plan your estate alongside your retirement:
- Project your estate's likely value at different ages
- See the IHT impact of different asset drawdown strategies
- Model gifting strategies and the 7-year rule
- Compare pension vs ISA drawdown for IHT efficiency
- Understand how spending decisions affect what you leave behind
Model Your Estate Plan
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