This year’s runaway house prices rises mean that more people could find themselves liable for inheritance tax when they are left a property, money or other assets after someone has died.
New figures from HMRC show that inheritance receipts in April to May 2021 were £966million – £340million higher than the same period last year, due in part to an increase in the value of many people’s homes.
Financial advisers say significant increases in property values may mean that more estates will nudge past the threshold where inheritance tax is due, without them realising it.
Tilney, the financial planning firm, has issued a stark warning about IHT – saying rising property prices, along with the buoyancy of the stock market, could draw more people into the ‘inheritance tax web’.
Taxing times: House prices rises have pushed homeowners over the inheritance tax threshold
The latest official figures from HM Land Registry, which reported on house sales in April, showed that house prices had risen 8.9 per cent in the past year to an average of £250,772.
If you give away your family home to your children, £500,000 is the maximum value that your estate can reach before you start being liable for inheritance tax – or up £1million if you are a surviving spouse or civil partner who already inherited the property from them.
If you don’t fall into this category, your limit is £325,000 – the standard nil-rate band.
This is Money analysis of Land Registry price paid data shows that more than 19,500 homes were bought for over £500,000 in the first quarter of this year.
In the first quarter of 2010, the first full year after the inheritance tax threshold was last changed, the figure was less than half that, 7,800.
The nil rate band is fixed, which means that for every £10,000 the value of the property grows over £325,000, the owners’ inheritance liability increases by £4,000.
Compounding the situation is the fact that the threshold will not change for at least five years.
House prices have increased by nearly 15 per cent in some UK areas – so those hoping to pass their home on after they die could be unwittingly setting family up for an inheritance tax trap
The Government recently took the decision to freeze the £325,000 nil-rate band until at least April 2026.
‘The freeze means that even before any fresh reforms to IHT are introduced, taxpayers could be stung if there is even a modest increase in their estates – which is quite possible given that property and share prices have been on the rise,’ said Ian Dyall, head of estate planning at Tilney.
The nil rate band has remained at £325,000 per person since April 2009, meaning that it will have remained unchanged for 17 years by the time the freeze ends.
However, the Government did bring in the £500,000 nil rate band for those passing on their main home to their children in 2017.
Inheritance tax: who needs to pay?
Inheritance tax is a tax on the estate (property, money and possessions) of someone who has died.
The standard rate is 40 per cent on anything above the threshold of £325,000.
There’s normally no inheritance tax to pay if either:
- The value of your estate is below the £325,000 threshold
- You leave everything above the £325,000 threshold to your spouse, civil partner, a charity or a community amateur sports club
If you give away your family home to your children (including adopted, foster or stepchildren) or grandchildren, your threshold can increase to £500,000. This because of the ‘residence nil rate band’ which adds £175,000 to your allowance.
This relief tapers away if the deceased’s total estate is worth more than £2million.
If you’re married or in a civil partnership and you leave your estate to them, your threshold can be added to your partner’s when you die, or vice versa. This means the joint threshold can be as much as £1million.
There are certain exemptions and reductions, for example if you leave money to charity or if you are passing on ownership of a business.
Tilney points out that, had the £325,000 allowance been adjusted for consumer price index inflation each year, it would now be approximately £414,000 per person.
If inflation continues to rise, the gap between the inheritance tax threshold and the value of people’s estates will grow even wider.
Dyall added: ‘This is a reminder of the impact of inflation, which has started to rear its head again, evidenced by the latest consumer price index inflation figures out today which rose to 2.1 per cent in May, up from 1.5 per cent in April.’
Some are already seeking advice on inheritance tax and what their descendants might have to pay after they have died.
According to The Openwork Partnership, one of the UK’s largest networks of financial advisers, there was a 38 per cent spike in demand for advice on inheritance tax planning in the past year, with more than one in ten clients wanting to discuss it.
Of these, 43 per cent said rising property prices was one of their reasons for seeking inheritance tax advice.
Antony Cousins, director of wealth management at SPF Private Clients, said his firm had also seen an increase in enquiries on the topic.
‘Many more people could be hit by inheritance tax, thanks to rising property prices and a freezing of the nil-rate.
‘We have seen a significant increase in enquiries in this area over the past 12 to 24 months, particularly as Covid has made people think more about their mortality.’
He says that there are five main ways that those worried about inheritance tax can reduce their liability: spending significant amounts to reduce their overall estate; gifting money or assets to children and grandchildren; insuring against their inheritance tax liability, for example on a life assurance policy; setting up suitable trusts; and investing in an asset that qualifies for business property relief.
You can claim business property relief on property and buildings, unlisted shares and machinery that are associated with the running of a business, and if eligible the inheritance relief will be between 50 and 100 per cent.
‘Everyone is different and generally it’s not just one of these solutions which suits best but a combination of these,’ says Cousins.
‘Given that more people could find themselves hit by inheritance tax, it is important to take advice and to plan ahead.’
More older people are seeking advice about inheritance tax, according to experts
Those with more valuable estates have an extra complication to look out for, as the exemption for passing on your main home to your children tapers away when the deceased’s estate is worth more than £2million.
Dyall explains: ‘There is an additional trap to consider, which means that some people will pay inheritance tax at an effective rate of 60 per cent on the growth.
‘If the growth on their home pushes them above £2million, when added to their other assets, then for every £2 they exceed the £2million threshold, they will lose £1 of allowance.
‘This results in an effective rate of tax of 60 per cent on the growth. So it is important to keep an eye on how the growth in the value of their home is affecting the bigger picture.’
How much does the Government make from inheritance tax?
|Tax year||Government inheritance tax receipts (£billion)|
|Source: HMRC/NFU Mutual|
HMRC has revealed that it collected £5.33billion from inheritance tax in the 2020-21 financial year, up from £5.12billion the year before.
Since the tax-free allowance was raised to £325,000 in 2009, the amount of inheritance tax the Government pockets has more than doubled.
Meanwhile, the average UK house price has increased by around 60 per cent since 2009, so a £325,000 house would now be worth around £520,000.
Though its income from the tax is on the increase, some experts predict that the Treasury could increase IHT even further as it seeks to recoup funds spent on emergency support related to the Coronavirus pandemic.
Julia Rosenbloom, tax partner at accountants Smith & Williamson, says: ‘Rumours have been swelling since the weekend about a plan by the Chancellor to launch a pensions tax raid in an Autumn Budget.
‘If it is confirmed that a Budget will be held later this year, then it wouldn’t be unthinkable for lucrative reforms to be considered for other taxes, particularly IHT and capital gains tax, given the amount they raise for the Treasury on an annual basis.
‘If the Chancellor launches a sledgehammer to the tax system in an Autumn Budget and explicitly increases IHT charges then many more people will be affected – and some may need to go as far as selling family homes to pay their IHT bills.’
Cutting your IHT bill: Three tips from Tilney’s Ian Dyall
Pass on your pension
Pensions can play a big role when it comes to estate planning, as they aren’t included when your inheritance tax bill is calculated.
If you can afford to leave your pension untouched while using other assets to fund your retirement, you could pass your pension on tax-efficiently while gradually reducing the size of your taxable estate.
If you die before you are 75, the person who inherits your pension can make withdrawals without paying any tax. If you die after age 75, the beneficiary will pay tax on withdrawals at their marginal income tax rate. However, access to these pension features is not available on many older pensions.
Make gifts in trusts
Trusts make it possible to give gifts to others while keeping control over the money. Usually when you set up a trust you can choose who receives the gift, when they receive it and what they can use it for. Many people make gifts in trust when the beneficiary is:
- Too young or inexperienced to look after the money
- In ill health or has certain disabilities
- Going through divorce or bankruptcy proceedings
You can also use certain trusts to make a gift while still benefiting from the money. For example, you could give away an investment while keeping any income it pays or keep an investment while giving away its growth.
Use tax-efficient investments to benefit from business relief
Under business relief rules, you may be able to reduce the value of your inheritance tax bill by owning or investing in a business. You can claim business relief on:
- A business or interest in a business (including a sole trade and partnership)
- Land, buildings or machinery owned by a partner or controlling shareholder of a business and used by the business
- Unquoted shares, such as those listed on the Alternative Investment Market (AIM) or Enterprise Investment Scheme companies.
You will need to own the assets for at least two years before you can claim business relief on them.
Some assets become completely free from inheritance tax under these rules, whereas others only receive 50 per cent relief – and there are also several exceptions. In addition, investing in smaller companies can be higher risk.