On 6 April 2009, the government increased the tax-free allowance before an individual starts paying inheritance tax to £325,000. Any assets over this are chargeable to inheritance tax at a rate of 40%. This allowance known as the “nil rate band” has remained the same since that date.
As the law currently stands if the nil rate band is not used on the first death (between husband and wife), it is possible for the estate on the second death to claim up to a double nil rate band at the rate applicable at the date of the second death.
In 2015, the Conservative government made suggestions that the nil rate band would be increased to £500,000 for each individual so that on the principle set out above a husband and wife would have the benefit of a tax-free amount of £1million before inheritance tax became payable. However, the reality is a little different.
Instead April 2017 saw the introduction of a “residence nil rate band” which is entirely separate to the aforementioned “nil rate band”. Again, it is transferable between husband and wife.
The allowance is being introduced in stages. From April 2017, each individual (subject to the criteria referred to below) has the potential to benefit from an additional £100,000 of “residence nil rate band”. This is increasing incrementally by £25,000 each year (£125,000 in total by April 2018) before reaching £175,000 by April 2020. This threshold will increase in line with the Consumer Price Index from April 2021.
Although at first sight this looks positive news when one considers the detail a little closer it is not so generous. Where a person has assets over a value of £2million on death, the allowance is reduced by £1 for every £2 over this amount. By April 2020, estates with a value above £2.7million will lose this allowance completely.
Despite the perhaps stalling of the London property market, it is ultimately likely that properties will still appreciate in value over time meaning that those living in certain areas may struggle to benefit from the new allowance.
In addition, despite assets benefitting from Business Property Relief being outside of an individual’s estate for inheritance tax purposes, any value attributed to such assets still comes into the equation when determining whether an individual has an estate above £2million.
The “residence nil rate band” must also be passed onto “direct lineal descendants”. This includes children, adopted children together with stepchildren and foster children. However, those without such descendants (which may include uncles/aunts/nieces/nephews) are unable to benefit from the allowance at all.
A quirk of the legislation is that any gifts made by an individual who fails to survive by seven years are not included when valuing that person’s estate for the £2million threshold. This gives rise to a number of opportunities to be considered by an individual who may have assets exceeding the threshold.
Should a husband and wife have a joint estate in the region of £4million (£2million each) thought should also be had as to whether to use the “residence nil rate band” on the first death as otherwise the allowance will be effectively lost on the second death due to the asset value. However, such planning needs to be structured carefully; not only from a tax perspective but also from a practical standpoint as a child could own a share of a property whilst a parent is still in full occupation.
The “residence nil rate band” is still available should an individual no longer own a home (for example, because they have moved into a care home), provided that the sale was on or after 8 July 2015 or where an individual has sold their property and downsized. When a person downsizes their property, there will be an adjustment to the “residence nil rate band”. This is based on the difference between the value of the property that was sold and the new one. The adjustment is referred to as the “downsizing addition” and a complicated calculation is necessary depending on the values involved.
Clearly the “residence nil rate band” is better than the position prior to April 2017, but it does not go as far as a number of people anticipated when the Conservatives initially raised the prospect of an individual having a tax-free allowance of £500,000.
Careful planning and specialist legal advice should be sought to benefit effectively from the “residence nil rate band”. Please contact Paul Levy or your usual Druces lawyer to find out more.
This briefing was posted on 8 March 2018