Inheritance tax ("IHT") is generally calculated by reference to the value of a person's estate at the date of their death. However, the administration of an estate can take time and investment markets do not stand still.
Where investments fall in value after death, executors may be able to claim IHT loss relief. For financial advisers and investment managers, the important point is that what happens to the investments during the administration can affect whether relief is available and how much can be claimed.
When can loss relief apply?
Where qualifying investments are sold at a loss within 12 months of the date of death, the executors may be able to substitute the lower sale value for the value originally used for IHT purposes.
The relief applies to qualifying investments, including shares and securities listed on a recognised stock exchange and holdings in authorised unit trusts.
The sale must normally be made by the executors where the investments form part of the deceased's estate. However, the relief is not calculated simply by identifying individual investments which have fallen in value. All qualifying investments sold by the executors during the 12-month period must be taken into account, including those sold at a gain. There must be an overall loss across the qualifying investments sold for relief to be available.
Choosing what to sell and what to transfer
This can make the choice between selling and transferring investments particularly important.
Take a simplified example. An estate contains two qualifying investment holdings:
- Holding A was worth £100,000 at the date of death but is now worth £80,000.
- Holding B was worth £100,000 at the date of death but is now worth £125,000.
The overall result depends on which holdings are sold:
- Sell both holdings: there is a net gain of £5,000, so no IHT loss relief is available. IHT remains £40,000 on Holding A based on it being fully subject to IHT at 40% and the estate also has to pay CGT of approximately £1,200 (assuming the CGT allowance has already been used in full.)
- Sell Holding A and transfer Holding B: substituting the £80,000 sale value reduces IHT to £32,000, with no estate CGT on the loss-making sale. If the beneficiary later sells Holding B for £125,000, CGT would be approximately £3,960 to £5,280, depending on their tax position. The combined tax burden would be approximately £35,960 to £37,280 compared to £41,200, a saving of around £3,920 to £5,240 depending on the beneficiaries’ tax position.
The beneficiary’s available CGT exemption, tax band and losses may therefore assist, but the appropriate course will depend on the estate and the beneficiaries’ circumstances. Where beneficiaries are married, spouse’s allowances and tax rates could also be used, reducing the overall tax burden further.
This does not mean that investments which have fallen should always be sold or that investments which have risen should always be transferred. There may be investment, legal, tax and practical reasons for taking a different approach. However, it does demonstrate why the options should be considered well before instructions are given to sell or transfer the portfolio.
What should advisers look out for?
Financial advisers and investment managers may be particularly well placed to identify significant movements in an estate portfolio.
Where a deceased client's investments have changed materially in value, it is worth considering:
- how long it has been since the death;
- which investments have increased or decreased in value; and
- whether the executors have considered the tax consequences before sale or transfer instructions are implemented.
This is particularly important because the window for selling qualifying investments for IHT loss relief is only 12 months from the date of death.
Taking advice before taking action
The date-of-death valuation of an investment portfolio is a snapshot in time. Where markets move significantly during an estate administration, there can be more than one way of dealing with the investments.
The key is to consider the options before transactions take place. Early coordination between the executors and their legal, tax and investment advisers can help identify whether IHT loss relief may be available and whether particular investments should be sold or transferred to beneficiaries.
For more information, please get in touch our wills and estate planning lawyers.
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