Top tips to reduce a family's IHT exposure

20 April 2022

Government statistics show that Inheritance tax (IHT) receipts have been steadily rising over the last 12 years even though the proportion of estates that actually pay the tax has remained fairly low at less than five per cent throughout that period. Whilst total IHT receipts are small in comparison to receipts from other taxes, for the families concerned the impact of IHT can be significant.

The first £325,000 of a person’s taxable estate on death is taxable at zero percent. However, this band has remained the same since April 2009 and has been frozen until at least 2026. Whilst the introduction of the residence nil rate band, worth up to £175,000, in 2017 was helpful, this has also been frozen until 2026 and is only available against the value of residential property which has at some point been occupied as the individual’s home and where it is inherited by direct descendants of the deceased. The relief is also tapered for estates valued at more than £2 million.

During periods of high inflation, such as we are experiencing now, this freezing of the nil rate bands could have a major effect on the wealth individuals are able to pass to their beneficiaries. With the cost of IHT rising, what can be done to protect family wealth?

Apart from making use of the usual exemptions, such as those for gifts to a surviving spouse or to charity, lifetime gifts can be one solution. In most cases no IHT is payable on direct gifts to individuals made more than seven years before death, so making lifetime gifts outright to family is generally good IHT planning. However, it is not a practical solution in all cases and individuals may prefer not to gift outright to family for a number of reasons.

Gifting into trusts for the benefit of adult children and of grandchildren may be a better solution, especially in complicated family situations. Similarly, the use of a family investment company can ensure wealth is ringfenced for intended family members whilst in the meantime time benefitting from reduced ongoing costs of tax on income and investment gains. Family investment companies are increasingly being used as an alternative to trusts and have become more popular following news last year that HMRC closed down a specialist unit focused on them.

Investments into assets which qualify for business property relief, including interests in qualifying businesses and shares in unquoted trading companies or AIM listed shares can also provide a valuable exemption once they have been held for the necessary two years qualifying period. Similarly, investments in farmland and agricultural property can qualify for relief which may be contributing to increases in the cost of farmland in recent years. However, it is important to ensure the qualifying conditions are met and to also consider whether those assets are appropriate in terms of investment risk.