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Five ways to cut your Inheritance Tax bill

Five ways to cut your Inheritance Tax bill
Christina Hoghton
Written By:
Christina Hoghton

The Chancellor didn’t cut Inheritance Tax this week, but you can still take steps to mitigate the potential costs to your loved ones.

There were widespread rumours that Jeremy Hunt would use his Autumn Statement to cut to Inheritance Tax (IHT), but this forecast cuts did not come to pass.

Whether or not the much-maligned tax is cut closer to a General Election is yet to be seen, but you don’t need to wait to take matters into your own hands.

What is Inheritance Tax?

When you die, IHT is charged at 40 per cent on the part of your estate that’s above the nil-rate threshold.

The nil-rate band is the amount that can be passed down the generations with no tax to pay and is currently £325,000 per person.

This £325k nil-rate band has been frozen since 2009, and if it had been uprated in line with inflation during that time, it would be over £500,000 from April next year, according to investment platform AJ Bell.

Extra relief

However, the Residence Nil Rate Band was introduced in 2017, which provides an extra £175,000 of relief from IHT per person for properties passed on to a direct descendant.

Plus, married couples can share their allowance, which means parents can effectively pass on £1m to their children without them needing to pay any inheritance tax.

Finally, you can pass on your entire estate to your spouse, civil partner or a charity tax-free.

Only around four per cent of deaths result in an Inheritance Tax charge, which is one in 25.

Laith Khalaf, head of investment analysis at AJ Bell, said: “Taxes don’t generally win popularity contests, but if there is one that gets people’s heckles up, Inheritance Tax is probably it.

“Only around one in twenty five deaths result in an IHT liability, but at a rate of 40%, it can really eat into the money you leave to your heirs if you fall foul of it, and many people clearly don’t like the idea of paying such a heavy tithe on assets passed down the generations.”

Five ways to cut your bill

There are legitimate steps you can take to mitigate IHT, or potentially avoid paying it all together. But you need to take action sooner rather than later.

Khalaf explained: “However you choose to deal with the question of Inheritance Tax, the most important thing is to make a plan in good time.

“It can be a difficult subject to bring up, particularly for those who stand to be beneficiaries, so if you’re in the fortunate position of having a large pool of assets to pass on, it’s probably a good idea to start the conversation yourself.”

Below are five key ways you can mitigate IHT, according to AJ Bell:

1. Gifting: Gifting is probably the simplest way to pass your assets on to your children and grandchildren without paying IHT. However, if you die within seven years of making a gift, tax will be payable on a sliding scale.

2. Pensions: A SIPP (Self Invested Personal Pension) could also be a useful tool to pass wealth onto younger generations, though its purpose first and foremost is to provide you with a retirement income.

You can nominate beneficiaries for your SIPP in the event of your death, which must be officially submitted to your pension provider, and IHT is not generally payable.

3. Trusts: Setting up a trust to hold your assets is another option.

The benefit is that whoever you appoint as the trustee can control the assets rather than being passed onto the beneficiaries right away. This might be useful if you are concerned about gifting assets to a loved one who is perhaps not renowned for their financial prudence, or perhaps to young grandchildren.

4. The AIM market: Investing in some AIM shares also comes with IHT benefits, because many stocks on London’s junior market qualify for Business Property Relief.

You must hold the shares for a minimum of two years before you are eligible for this IHT exemption, and not all AIM shares qualify.

5. Insurance: A final option to consider is setting up an insurance policy which pays out when you die, and thereby covers any Inheritance Tax liability.

The policy should be written in trust, so the payout doesn’t fall into your estate and therefore be subjected to IHT itself.