Introduction to Inheritance Tax (IHT) and Nil Rate Bands (NRB)

Going way back to the 1950s and 1960s we used to have Estate Duty (tax) on death.

Estate Duty was abolished by the Finance Act 1975 and replaced by Capital Transfer Tax.  Capital Transfer Tax was then abolished as part of the Inheritance Tax Act 1984 as amended by the Finance Act 1986.

IHT came into force on 18 March 1986.

Inheritance Tax is not a ‘death/estate’ tax, it is a gifting tax. 

• Inheritance Tax may be payable when you transfer/gift assets and wealth on death.
• Inheritance Tax may also be payable when you transfer/gifts assets and wealth in life.

Perhaps, Capital Transfer Tax would be a more accurate phrase (and description) to use today.

Inheritance tax is payable by the donor (the person making the gift/transfer) and not the beneficiary whether the gift is in life (donor pays) or on death (estate pays).

• Many countries do not have inheritance taxes and in others it is the beneficiary i.e., the person receiving the gift that is liable to tax.

Transfer Between Spouses

Gifts/transfer of wealth between legally married spouses or civil partners is exempt from inheritance tax in life or in death.

Nil Rate Band (NRB)

This is the first part of your estate that is subject to an inheritance tax rate of 0% i.e., no tax is payable.

• The first NRB in 1986 was £71,000.
• The NRB gradually increased over the years to £325,000 and has remained at this level since 06/04/09.
• The NRB of £325,000 is frozen until 05/04/2028 meaning we have had the same NRB for 19 years meaning we are paying ever higher IHT.

Exemptions Immediately Outside Your Estate

• We all have an annual gifting exemption of £3,000 pa (+ any unused exemption from last year) where we can make gifts that are immediately outside the estate for IHT purposes.
• Wedding gifts:  you can give up to £5,000 to a child, £2,500 to a grandchild or great-grandchild and £1,000 to any other person that are immediately outside the estate for IHT purposes.
• Unlimited numbers of £250 gifts to individual people (they must be different people in each case) e.g.  you can walk down a street and gift £250 to any person you meet, and these gifts are immediately outside the estate for IHT purposes.
• Unlimited gifts from excess normal income to anyone including ‘loved ones’ provided you can prove your standard of living has not fallen (this will need to be documented, and records kept).
• If you make lifetime transfers/gifts over and these exemptions, they may become Potentially Exempt Transfers (PETs) or Chargeable Lifetime Transfers (CLTs).

Potentially Exempt Transfers (PETs) or Chargeable Lifetime Transfers (CLTs).

• You can make unlimited gifts to family, friends, businesses and even trusts. 
• Gifts are cumulative over a 7-year period before they fall outside your estate e.g., you make the following financial gifts to your children in excess of the above exemptions:
• £100,000 in tax year 2022/23, £200,000 in tax year 2023/24 and £100,000 in tax year 2024/25 (current tax year). 
• This means you have made gifts in the last 7 years of £400,000.  This is £75,000 over and above your IHT NRB of £325,000.
• If the gifts were made to people (not your spouse/civil partner), they are potentially exempt transfers (PETs) as each gift is potentially exempt from IHT and becomes fully exempt after 7 years i.e.,
• If you live for 7 years+, £100,000 become exempt from IHT and falls outside your estate in tax year 2029/30, £200,000 exempt in tax year 2030/31 and £100,000 in tax year 2031/32.
• If you die within 7 years, all of the above gifts are included in your estate and the 1^st £325,000 is IHT free under your NRB and the excess balance of £75,000 is taxable at 40%.
• If the gifts were made to a limited company or a discretionary trust, they are chargeable lifetime transfers (CLTs) as each gift is liable to IHT and is not exempt until after 7 years i.e.,
• £100,000 in tax year 2022/23, £200,000 in tax year 2023/24 is within your NRB of £325,000 so is not subject to IHT.  You have used £300,000 of your £325,000 NRB and have £25,000 NRB remaining
• Of the £100,000 gift made in current tax year 2024/25, £25,000 is within NRB and £75,000 is exceeds NRB meaning IHT is payable at the Lifetime Transfer Rate of 20% i.e., you pay IHT when you are alive.
• If you live for 7 years+, the 20% tax on £75,000 is kept by HMRC but £100,000 falls outside your estate for IHT and your NRB increases back to £100,000 in tax year 2029/30.  The £200,000 falls outside your estate for IHT and your NRB increases again from £100,000 to £300,000 in tax year 2030/31 and the £75,000 falls outside your estate for IHT and your NRB increases back up again from £300,000 to £325,000 in tax year in tax year 2031/32.
• If you die within 7 years, the excess £75,000 gift made in 2024/25 will pay another 20% IHT (as full IHT rate 40% is payable on death) plus all other financial gifts over and above £325,000 limit are subject to 40% IHT.

Residence Nil Rate Band (RNRB)

• 06/04/17 – an additional private residence nil rate band (RNRB) of £100,000 was introduced meaning that if you own a private residence on death and you pass this wealth onto your direct line descendants i.e.  a child of the deceased (including a stepchild, adopted child or foster child), together with that child's own lineal descendants i.e.  your grandchildren (again your step-grandchildren, adopted grandchildren and foster grandchildren and so on down the blood line).
• This was increased over the following 3 years to £175,000 and this RNRB remains frozen until 2028 alongside your NRB.
• This means, provided you own a private residence, we each have a NRB of £325,000 and a RNRB of £175,000.  Total nil rate band of £500,000 each.

Unused NRB and RNRB

If you leave some or all your wealth including private residence interest to your legal spouse or civil partner, you do not use some or any of your IHT allowances.

Any unused nil band allowances are transferred on death to your legally married spouse/civil meaning the survivor will have their own allowances up to £500,000 plus the unused allowance up to £500,000 from 1^st death.  A total potential NRB on 2^nd death of £1m.

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