Reducing the Inheritance Tax burden

Q. My husband and I have assets worth about £950,000 between us. This is made up of our main house worth £450,000 and a few mortgage free buy to let properties worth about £500,000.

We keep on being advised by friends to sell some of the buy to let properties and then gift the proceeds to our grown up children to reduce our Inheritance Tax (IHT) bill. The buy to let properties are worth a lot more than we paid for them, so there will be some Capital Gains Tax to pay if we sell now, but we have been told that this way we will save IHT at 40%. Is this correct?

A. In a word, no. There have been some relatively recent changes to IHT which mean that couples in your situation should review their tax arrangements before gifting funds.

Currently each individual has an IHT allowance, or “nil-rate band”, of £325,000. This amount is transferable between spouses and civil partners, giving a couple effectively a nil-rate band of £650,000 before tax at 40% is due on their estates.

Up until recently, to reduce IHT, couples could sell assets such as second properties and gift the proceeds to their adult children. Provided they survived 7 years from the date of the gift, the amounts would eventually be removed from their estates thus reducing the potential IHT bill. So in some cases paying the Capital Gains Tax was worthwhile to avoid an even higher IHT bill.

The good news is that for many people this thinking no longer applies.

The recent changes mean that from 2018, individuals who die with a main residence in their estate each get an additional £125,000 “residence nil-rate band” (RNRB). This will increase to £150,000 in 2019/20 and to £175,000 in 2020/21. These additional allowances will eventually bring a couple’s effective overall IHT nil-rate band to £1million. To claim the RNRB you must own a property that has been the family home, and it must be passed direct to descendants.

The important point is that the Capital Gains Tax slate is wiped clean on death, and assets can be passed on to beneficiaries at their current market value. So where the value of your main home and your other assets is likely to be below the £1m threshold and, providing you both survive for a few more years, your estates should be capable of being passed on to each other and then to your descendants inheritance tax free.

To maximise the benefit of the new residential nil-rate band, you must both jointly own the principal private residence, which requires both husband and wife to be on the property title documents.

As with all things tax, it really does make sense to obtain good professional advice.