What is inheritance tax?

There are few certainties in life, but to borrow the well-worn words of Benjamin Franklin, death and taxes are two. The UK's approach to taxation on death, while often reported in the media, is regularly misunderstood. In this insight, we provide a basic overview of how the UK tax system works when someone dies: when death and taxes coincide.

Is tax payable on death?

In short, the answer to this question is 'it depends'.

When someone dies, the value of everything that they owned (the "estate") needs to be valued. Depending on the total value of the estate, there may be inheritance tax ("IHT") to be paid to HM Revenue & Customs ("HMRC").

Where a deceased person's 'net estate' (the estate after deduction of all debts and liabilities as at the date of death) is worth more than £325,000 (known as the "Nil Rate Band"), IHT at the rate of 40% will be charged on the portion of the estate valued above the Nil Rate Band. If the net estate is worth less than £325,000 on death, no IHT will be payable.

It should be said that this is how IHT works from a general standpoint. There are various IHT reliefs and exemptions which may apply to an estate, as well as rules in relation to gifts of assets.

How is an estate valued for IHT?

The process of valuing an estate for IHT purposes will depend on the assets contained within the estate. Assets like bank accounts and properties are generally easier to value, requiring a date of death bank balance or surveyor's valuation. Other assets, such as private company shares and antiques can be more difficult to price and may require the involvement of specialists. The executors – those named in the deceased's will or court appointed where there is no will – are responsible for ascertaining the value for each asset as at the date of death and arranging for any IHT to be paid to HMRC.

Is a will important for IHT purposes?

A will is an important estate planning tool in many respects, as it sets out who is to inherit an estate on death. In setting out who should inherit and what they inherit, a will can be used to shelter an estate (in whole or in part) from IHT by taking advantage of any available reliefs and exemptions.

Does having a will mean IHT will not be due on death?

Having a will may allow a deceased's estate to take better advantage of the spouse exemption or qualify for the charity exemption for IHT. A well-constructed will might also make better use of IHT reliefs available on business and agricultural property.

In addition to an appropriate will, concerns about a potential IHT liability are normally addressed by putting in place a multi-faceted plan and may include some of the following:

1. Gifts: In broad terms, gifts made by someone within 7 years of their death will be clawed back into their estate for IHT purposes. However, if the individual survives the 7-year period, the gifts will fall out of their estate.
   
   
2. Trusts: Trusts can be an effective means to move assets out of an estate whilst still retaining control over who benefits from the trust and when. The same 7-year rule applies to gifts made to trusts.
   
   
3. Life cover: If you anticipate that IHT will be due by your estate on death and are concerned about how the payment will be funded, certain insurance and assurance products can cover any tax which becomes payable.
   
   

What should I do about an IHT problem?

Concerns about IHT are generally best dealt with as part of a wider estate plan. While tax is an important consideration for anyone contemplating what happens when they die, it is often one of many things that needs to be considered. Our key recommendations when considering IHT are:

1. Review your estate: consider what you own and how much each asset is worth.
   
   
2. Speak to an experienced private client lawyer: As IHT is a complicated regime, it is vital that you obtain specialist advice before taking any action.
   

If you have questions or would like help with your own IHT planning, please contact one of our wills and estate planning experts.