4 simple ways to avoid Inheritance Tax

What is Inheritance Tax?

Inheritance Tax, commonly referred to as IHT, is the tax applied by the UK government on the estate of someone who has died. Your estate is all of your savings, property, and other possessions that you have accumulated during your lifetime. When your estate is passed on to your beneficiaries, they may have to pay Inheritance Tax on the assets they receive – depending on who they are and how much the assets are worth.

This article will help you to understand Inheritance Tax rules and methods you can use to escape it but be mindful that this is not official tax advice. To ensure you are making the best decisions for your unique financial and social situation, it is best to speak to a financial planning advisor to get expert guidance before taking steps towards avoiding IHT.

Will Inheritance Tax affect me?

The current threshold for Inheritance Tax is £325,000. This means that if the total value of your estate is below £325,000, there will not normally be any IHT to pay when it is distributed. If your estate is worth more than this threshold, the additional amount will be taxed – unless you are leaving the rest of your estate to your spouse / civil partner or a not-for-profit organisation like a charity.

The way that Inheritance Tax is set up means that baby boomers, who have accumulated a disproportionate amount of assets compared with previous generations, and high earners are particularly vulnerable. With the standard Inheritance Tax rate at a whopping 40% and forecast to rise further following the Covid-19 pandemic, there is the potential for IHT to significantly impact the wealth people are able to pass on to their loved ones. Therefore, while Inheritance Tax is in place partly to reduce wealth inequality, it is not surprising that many retirees and people earning a significant wage are looking for ways to avoid IHT impacting upon their estate.

How to avoid Inheritance Tax

Update your will

The major and essential part of estate planning is making a will, a legal document that states your financial assets and how these savings, property and possessions should be distributed between your beneficiaries upon your death. Without a properly maintained will, some or all of your assets will be divvied up according to intestacy rules which may lead to IHT charges that could have been avoided. For example, setting up your will so that your spouse inherits your estate above the £325,000 threshold means that you would avoid IHT altogether.

Gift your assets

One of the most popular ways to reduce the amount of IHT that your loved ones must pay on receiving your estate is to gift a proportion of your assets to them during your lifetime. As long as you live for at least seven years after parting with the money, the recipient does not need to pay Inheritance Tax on that gift. A common method of gifting money is to pay towards the deposit when your child is buying a house, helping them to get their foot on the property ladder and avoid high mortgage bills. You are also able to gift £3,000 per year tax free, and £5,000 on the occasion of your child’s wedding.

Create a trust

Assets that are being held in a trust are not counted as part of your estate and so escape Inheritance Tax laws. Consider creating a trust for your children and/or grandchildren to safeguard a lump sum for them to inherit in the future, for example when they come of age.

Donate to charity

If you are feeling altruistic, or if you want to support a not-for-profit organisation or community club that holds a special place in your heart, set aside a chunk of your savings as a charitable donation. Any money left to charity is free of IHT liability, and this will help to reduce the value of your estate.

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