One day, all this could be yours: a home and a huge claim for inheritance tax

Melanie Bien shows how to limit the damage as rising house prices put more and more estates at the Revenue's mercy

Discovering that your home has increased significantly in value is welcome news if you are trying to sell it. But it's not so desirable if that rise makes your estate liable for inheritance tax (IHT).

Discovering that your home has increased significantly in value is welcome news if you are trying to sell it. But it's not so desirable if that rise makes your estate liable for inheritance tax (IHT).

Price inflation in bricks and mortar means that IHT is no longer only for the super-rich. The first £263,000 of everything you leave behind - including property, savings and investments - is tax-free; but your beneficiaries will pay tax at 40 per cent on any amount over that threshold. IHT is payable before your beneficiaries can gain probate, although if it is due on land, property or shares in an unquoted family firm, it can be paid in 10 annual instalments.

The Inland Revenue expects 34,000 estates to be liable for IHT in 2004-05, which isn't surprising when you consider that Leeds & Holbeck building society discovered that 60 per cent of those over the age of 50 have not sought advice about IHT planning.

The Institute for Public Policy Research (IPPR) is calling for the system to be made fairer. It believes the way to do this is via a banding system, similar to income tax, with a base rate of 22 per cent and higher bands of 40 and 50 per cent. Under this proposal, the IPPR argues, 87 per cent of estates would pay less tax but the new system would still raise an extra £147m.

"A fairer IHT would see the wealthy, who are comfortably over the threshold, pay more, while the vast majority of families that are currently taxed would pay less," says IPPR researcher Dominic Maxwell.

But whether or not the Government reforms IHT, there are ways in which individuals can reduce their liability. Below, we run through the main options available to you.

Write a will

Die intestate - without writing a will - and you could cause confusion and distress, and leave a hefty IHT bill. If you haven't written a will, do so immediately. Or if it's out of date - perhaps you've got married again or had children since you wrote it - make another (destroying the old one). This will ensure that your assets are distributed after your death according to your wishes, and you can also include provisions to mitigate IHT.

You don't have to use a solicitor: you can write your own will. However, if your financial affairs are more complicated, it may be worth forking out for legal advice. This shouldn't cost any more than £50.

Tie the knot

Assets transferred between married partners are not liable for IHT as long as both live in the UK. So if you jointly own a property, and you die, your spouse won't have to sell up and move somewhere smaller in order to pay the IHT bill.

"If you are married, your assets pass to your spouse on your death and IHT is due only when the second partner dies," says Philippa Gee at independent financial adviser (IFA) Torquil Clark. "But if you are not married, IHT is payable on the first death as well as the second."

Each person has their own nil-rate band for IHT, so a couple's estate could be worth up to £526,000 before the tax is payable, as long as both nil-rate bands are used and wills are in place to achieve this.

Don't put off IHT planning until a spouse dies. "If you have a lot of spare cash and think that the person who survives you won't need it, the first spouse to die could leave up to £263,000 to their children [so keeping to the nil-rate band]," says Jacqueline Thomson, trust manager at Smith & William- son, the professional and financial services group. "They can also make sure their nil-rate band is in a discretionary trust so that it doesn't count as part of the survivor's estate when they die [and then the heirs benefit from two nil-rate bands or £526,000]. But this trust needs to be properly worded."

It is possible to leave your share in the family home in this way, so it is not liable for IHT when the surviving spouse dies.

Give generously

Each year you can give away up to £3,000 each to individuals, free of IHT. And don't forget modest gifts from income: these are handouts the Revenue describes as "normal" or "habitual" and leave sufficient income for the donor to maintain their standard of living.

If you have enough spare income, you can pay regular amounts to a child, for example.

If your children get married, you can also give them £5,000, while other relatives can pass on up to £2,500 free of IHT.

Live for seven years

You can give away an unlimited amount, but if you die within seven years of doing so, the tax assessment is based on the date of that gift and the date of death. A sliding scale of tax rates is used if the gift is in excess of the nil-rate band, so the longer the period between the two dates, the smaller the tax bill. This is known as a "potentially exempt transfer".

Put it in trust

Trusts aren't just for those who are seriously loaded: they are a useful way of mitigating your IHT bill if you are of more modest means. A trust enables you to transfer assets out of your estate while still maintaining a degree of control over them.

There are two main types used for IHT planning:

¿ A discretionary trust gives the trustee absolute discretion over who benefits from the assets from among a number of beneficiaries specified by the person setting up the trust. But gifts into these vehicles are taxable at 20 per cent if they exceed your nil-rate band.

¿ Accumulation or maintenance trusts are discretionary trusts for children. The donor doesn't have to specify what each child will receive; the trustees decide according to need. Once the children are 25, they have the right to income from the trust.

Consider equity release

If you don't have liquid capital to give away or put in trust, equity release enables you to unlock some cash from the value of your property to use in IHT planning. Under these schemes, you can generate a lump sum or regular income in return for allowing the lender to take ownership of a portion of your home. This loan is repaid with interest out of the estate on your death, reducing your heirs' liability for IHT.

Equity release plans can be expensive, however, so think carefully before going down this route and consult an independent financial adviser.

Buy life assurance

If you anticipate a large IHT liability, you could take out a life assurance policy to cover the costs when you die. But ensure it's written in trust so that your spouse and children don't have to pay IHT on it.

Seek professional advice

Tax regulations can be complicated. It is worth seeking advice from a tax specialist on how to mitigate your IHT bill.

'IT'S TIME TO PLAN AHEAD'

Penny Barkham, 57, has two children, both in their 20s. She recently set up trusts on their behalf, after taking advice from the independent financial adviser Norwich & Peterborough.

Ms Barkham, a care home manager from Ashford in Kent, was keen to try to minimise her inheritance tax liability. She also wanted to help her children out financially in the future. Another motivating factor was the IHT bill she and her family were left to pay on her father's estate after he died in 2000.

"My father always said he didn't have a big enough estate to incur inheritance tax, but when he died we discovered that he was £50,000 over the threshold," she says. "I am glad he never knew that this was the case, as it would have caused him a lot of grief."

After paying tax on her father's estate and suffering a health scare herself, Ms Barkham decided to put her financial affairs in order.

"I am 57 now, so it's a good time to plan for the future," she says. "I have set up two trusts so far and have further plans to minimise my IHT liability when the final part of my divorce settlement comes through."

Independent Partners; request a free guide on NISAs from Hargreaves Lansdown

Voices
Homeless Veterans charity auction: Cook with Angela Hartnett and Neil Borthwick at Merchants Tavern
charity appeal
Sport
Amir Khan is engaged in a broader battle than attempting to win a fight with Floyd Mayweather
boxing Exclusive: Amir Khan reveals plans to travel to Pakistan
Arts and Entertainment
Caroline Flack became the tenth winner of Strictly Come Dancing
tvReview: 'Absolutely phenomenal' Xtra Factor presenter wins Strictly Come Dancing final
Sport
Ched Evans in action for Sheffield United in 2012
footballRonnie Moore says 'he's served his time and the boy wants to play football'
PROMOTED VIDEO
Have you tried new the Independent Digital Edition apps?
Finacial products from our partners
Property search
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

ES Rentals

    iJobs Job Widget
    iJobs Money & Business

    Carlton Senior Appointments: Private Banking Manager - Intl Bank - Los Angeles

    $200 - $350 per annum: Carlton Senior Appointments: Managing Producer – Office...

    Carlton Senior Appointments: San Fran - Investment Advisor – Ind Advisory Firm

    $125 - $225 per annum: Carlton Senior Appointments: San Fran - Investment Advi...

    Sheridan Maine: Commercial Finance Manager

    Up to £70,000 per annum + benefits: Sheridan Maine: Are you a qualified accoun...

    Sheridan Maine: Regulatory Reporting Accountant

    Up to £65,000 per annum + benefits: Sheridan Maine: Are you a qualified accoun...

    Day In a Page

    The week Hollywood got scared and had to grow up a bit

    The week Hollywood got scared and had to grow up a bit

    Sony suffered a chorus of disapproval after it withdrew 'The Interview', but it's not too late for it to take a stand, says Joan Smith
    From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?

    Panto dames: before and after

    From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?
    Thirties murder mystery novel is surprise runaway Christmas hit

    Thirties murder mystery novel is surprise runaway Christmas hit

    Booksellers say readers are turning away from dark modern thrillers and back to the golden age of crime writing
    Anne-Marie Huby: 'Charities deserve the best,' says founder of JustGiving

    Anne-Marie Huby: 'Charities deserve the best'

    Ten million of us have used the JustGiving website to donate to good causes. Its co-founder says that being dynamic is as important as being kind
    The botanist who hunts for giant trees at Kew Gardens

    The man who hunts giants

    A Kew Gardens botanist has found 25 new large tree species - and he's sure there are more out there
    The 12 ways of Christmas: Spare a thought for those who will be working to keep others safe during the festive season

    The 12 ways of Christmas

    We speak to a dozen people who will be working to keep others safe, happy and healthy over the holidays
    Birdwatching men have a lot in common with their feathered friends, new study shows

    The male exhibits strange behaviour

    A new study shows that birdwatching men have a lot in common with their feathered friends...
    Diaries of Evelyn Waugh, Virginia Woolf and Noël Coward reveal how they coped with the December blues

    Famous diaries: Christmas week in history

    Noël Coward parties into the night, Alan Clark bemoans the cost of servants, Evelyn Waugh ponders his drinking…
    From noble to narky, the fall of the open letter

    From noble to narky, the fall of the open letter

    The great tradition of St Paul and Zola reached its nadir with a hungry worker's rant to Russell Brand, says DJ Taylor
    A Christmas ghost story by Alison Moore: A prodigal daughter has a breakthrough

    A Christmas ghost story by Alison Moore

    The story was published earlier this month in 'Poor Souls' Light: Seven Curious Tales'
    Bill Granger recipes: Our chef creates an Italian-inspired fish feast for Christmas Eve

    Bill Granger's Christmas Eve fish feast

    Bill's Italian friends introduced him to the Roman Catholic custom of a lavish fish supper on Christmas Eve. Here, he gives the tradition his own spin…
    Liverpool vs Arsenal: Brendan Rodgers is fighting for his reputation

    Rodgers fights for his reputation

    Liverpool manager tries to stay on his feet despite waves of criticism
    Amir Khan: 'The Taliban can threaten me but I must speak out... innocent kids, killed over nothing. It’s sick in the mind'

    Amir Khan attacks the Taliban

    'They can threaten me but I must speak out... innocent kids, killed over nothing. It’s sick in the mind'
    Michael Calvin: Sepp Blatter is my man of the year in sport. Bring on 2015, quick

    Michael Calvin's Last Word

    Sepp Blatter is my man of the year in sport. Bring on 2015, quick