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Will inheritance tax affect me?

By Catherine Pope

March 27, 2019

Inheritance tax used to be something that concerned only wealthy people. Now that even modest homes can be worth seven-figure sums, more people are starting to pay attention. Although less than 4% of estates1 are liable for this tax, this figure is increasing. Perhaps unsurprisingly, half of all inheritance tax is paid on estates in London and the South East. Is this something you need to consider when making your long-term financial plans?

In this post, I’ll explain how Inheritance Tax works, what it means for your property, and a few ways you can reduce your liability.

What is Inheritance Tax and how much does it cost?

Inheritance tax (IHT) is charged at 40% on estates over £325,000, once any debts and funeral expenses have been deducted. Your estate includes property, savings, investments, valuables such as jewellery and artworks, and payouts from life insurance policies. So, if your estate is valued at £500,000, your beneficiaries would pay 40% tax on £175,000 – that’s the amount over the threshold. The net estate, then, is worth £430,000. Any tax must be paid before assets are passed to beneficiaries.

That’s a simple example. The tax liability depends on the relationship between you and the beneficiary and the type of asset. If you’re married or in a civil partnership, your surviving spouse can inherit your estate and pay no inheritance tax on any of it, however much it is worth.

Property and Inheritance Tax

There are also special rules around residential property. If you leave your main residence (not a second home or rental property) to a direct descendant, the threshold is raised to £450,000 on the property value. For these purposes, direct descendants include children, grandchildren, step-children, adopted or foster children. Nieces, nephews, siblings, and parents aren’t eligible. This threshold rises to £475,000 in 2019-20, and £500,000 in 2020-21. After that, it’ll increase in line with inflation. The exception is for estates in excess of £2m, where the relief tapers off.2

Currently, then, if you left a house worth £500,000 to your grandson, he’d pay no inheritance tax on the property after April 2020.

There’s another layer of complexity, albeit one that offers your beneficiaries a significant tax advantage. You can inherit your spouse’s unused IHT allowance, too. In some circumstances, this means you could leave that grandson a £1m house without him incurring any IHT. Here’s how it might work. Your spouse dies, leaving you the house. As you’re married, you don’t pay any inheritance tax. Your late spouse’s IHT allowance is therefore intact and you inherit that, too. Your combined allowance is now £1m.

It’s important to note that if you’re cohabiting, you are liable for IHT on your partner’s estate. What happens to their share of any property you own jointly depends on how you’ve arranged the deeds. Joint tenants automatically own the late partner’s share but have to pay inheritance tax if the value is more than the IHT threshold. Tenants in common, however, inherit the other half of the property only if their fellow tenant has left it to them. In these circumstances, they’re also liable for IHT on that portion. To find out more about tenancy, please take a look at the Government’s website. My post on intestacy explains the importance of wills, especially for cohabiting couples.

How to reduce the inheritance tax liability on your estate

In short, the best way to reduce your beneficiaries’ tax bill is to start giving away some money now … and make sure you live at least another seven years. Otherwise, beneficiaries are potentially liable for IHT on those gifts. Crucially, this applies only to assets – so, savings or investments such as ISAs. You can give away anything you receive through a salary or pension without creating a future liability for your beneficiary – but not so much that it adversely impacts upon your lifestyle.

At the moment, you can give away up to a total of £3,000 of assets each year without the beneficiaries incurring a future tax bill. You can carry forward your unused allowance for one year, too, meaning you have £6,000 to distribute. Alternatively, or additionally, you can give a maximum of £250 to as many people as you like – so this might be a good choice if you have a lot of grandchildren or nieces and nephews.

There’s also a special allowance for wedding and civil partnership gifts. You can give your £5,000 to your children, £2,500 to grandchildren, and £1,000 to anybody else.

Here are a few more options for reducing inheritance tax:

Leave money to charity – bequeath at least 10% of your estate to charity and the rate of IHT on the remainder is reduced from 40% to 36%. The charity pays no tax, regardless of how much you leave them.

Bequeath everything to your spouse – assuming you’re married or in a civil partnership, your spouse inherits it all tax-free.

Use equity release – this could free up some of the value of your house and give you an income. This is a big decision, though, and it’s certainly not right for everyone.

Draw up a trust – although this could protect your estate from some IHT, trusts are expensive and complex. They are usually only worthwhile for very large estates. Contact STEP to find a suitably qualified professional.


Inheritance tax is a complicated area, but it’s one that is of increasing importance to many of us. It’s worth taking the time to understand if and how it affects you, especially if you’re cohabiting. The rules will undoubtedly change over the next few decades, too, so do keep an eye on what’s happening. Governments keen to pop the housing bubble are likely to reduce the main residence allowance, bringing many more estates into the IHT band.

Visit MoneySavingExpert for some more information and examples of how IHT might affect you. There’s more advice and a useful calculator on the Which? website.

And please don’t forget to make a will.

This post is for information only and does not constitute financial advice.

  1. Source: Office for Budget Responsibility. []
  2. I’m assuming anyone in this position has their own financial adviser, so I won’t go into the details here. []


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