A recent survey* by Canada Life about inheritance tax (IHT) shows that wealthy Brits over the age of 45 are either ignoring estate planning solutions or they have forgotten about the benefits these can provide. Only 27% of those surveyed have taken financial advice on IHT planning despite all of them having a potential IHT liability.
What should you do if you fall into this category? Firstly, everyone should make a will. Why? If you die without a will then your estate falls under the laws of intestacy and you may be surprised at how these rules divide up your estate. Don’t assume that your spouse/civil partner (if you have one) will inherit everything.
60% of people surveyed do want to leave assets to their spouse/civil partner and 29% would like to leave an inheritance to younger relatives such as nieces, nephews and grandchildren, but the largest single beneficiary from peoples’ estates is still HMRC and to highlight this point they tell us they got £4,670,000,000 (that’s £4.67 billion) in the 2015/16 tax year alone.
A lot of people think IHT is something that happens on death and therefore they don’t need to think about it until they are at death’s door, but as Lord Jenkins stated over 30 years ago:
“Inheritance tax is, broadly speaking, a voluntary levy paid by those who distrust their heirs more than they dislike the Inland Revenue”.
Remember that if you plan ahead, gifts made during lifetime could reduce the ultimate IHT bill on death.
Everyone has a nil rate band (NRB) which is an amount liable to IHT at 0%. The current NRB is £325,000 and this renews every seven years. Therefore, with some forward planning, your estate doesn’t need to suffer IHT when you die. Because if you start your estate planning early enough, you can minimise the IHT liability during your lifetime – thus maximising the amount of your estate which can pass to your chosen beneficiaries.
Let’s look at an example. We will assume George is a wealthy individual who is currently 50 years old and in good health. For the sake of this example we will also assume that the nil rate band remains at £325,000 during his life and he lives to age 90. On the basis that he gets a new NRB every seven years, he could gift assets up to the NRB every seven years without IHT being payable. That would remove £1,950,000 (6 x £325,000) from George’s estate saving a total of £780,000 (£1.95m x 40%) from going to HMRC.
But you might not want to gift your capital during your lifetime. Let’s face it, you don’t know what’s around the corner and you may not want to give it away in case you need it back in the future. However, there are solutions which can cater for this.
One solution is to start a whole of life policy and put this into trust. The policy would pay out a sum assured when you die, and the sum assured can be tailored to meet your expected IHT liability on death. This means your estate is able to pass in full to your intended beneficiaries, as the lump sum payment from the whole of life plan would be used to compensate your beneficiaries in respect of the IHT liability on your estate. This solution can also be used where the estate consists of property (actual bricks and mortar) or family heirlooms which the individual wants to remain in the family and pass down the generations. Surprisingly, however, almost half of those surveyed have said they wouldn’t consider taking out life insurance as part of their estate planning.
The Canada Life survey also discovered that “creating trusts” is seen as complicated and time consuming but, in reality, setting up a trust can be very simple when you know who you want to benefit. You should get advice from a professional adviser on how best to achieve your objectives. Absolute trusts can be used where you want the certainty that one or more individuals will get a defined share at age 18, whereas discretionary trusts can be used where the trustees will have discretion to decide who, from a list of potential beneficiaries, gets what and when they get it.
There are also trusts which can provide benefits to the individual making the gift (the settlor) whilst at the same time still providing IHT benefits. There are three main types of solution where the settlor can receive something back:
1) Gift and loan trusts: you lend money to the trustees and you can have all or part of your loan back at any time – it’s the growth on the loan that is gifted for the beneficiaries;
2) Discounted gift trusts: you decide at outset how much of your original investment you want back as a regular payment for your own use and this is carved out at the beginning – for example up to 5% of the original investment could be paid back to you each year and, after you die, whatever is left in the trust can pass to the beneficiaries; and
3) Flexible reversionary trusts: you have the potential of receiving, for example, one or more maturing policies each year on the plan anniversary, and the trustees can decide each year whether or not you need to receive any of these policies to top up your other income. The trustees can also decide when to make distributions to any of the beneficiaries and this can be done at any time, even while you are still alive.
Do you really want to gift money to the taxman? Remember it is possible for you to mitigate or completely offset your IHT liability before your death. Generally, the sooner you start, the greater the potential savings and the greater the options available to you. Speak to your professional adviser today.
The information regarding taxation is based on our understanding of current legislation, which may be altered and depends on the individual circumstances of the investor. We recommend that you take your own professional tax advice.
*Survey of 1,001 UK consumers aged 45 or over with total assets exceeding the individual inheritance tax threshold of £325,000 carried out in September 2016.