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Inheritance tax: spouses and civil partners

Since our last blog post covered family companies, we figured we’d explore family tax issues a little further. So let’s take a look at inheritance tax (IHT) this time. Obviously, nobody likes to think about their own mortality, but being clued up in this area can really help to protect your loved ones.

Special rules apply to married couples and civil partners for inheritance tax purposes. To ensure valuable tax reliefs are not lost, considering the combined position -rather than dealing with each individual separately – has its benefits. To cut a long story short, married couples and civil partners benefit from exemptions that are simply not available to unmarried couples.

Inter-spouse exemption

The main inheritance tax benefit of being married or in a civil partnership is the “inter-spouse exemption”. Basically this means that transfers between married couples and civil partners are not subject to IHT. This applies both to transfers during their life and to those made on death.

It’s not everyone’s favourite thing to think about, but nonetheless it’s important knowledge. The inter-spouse exemption makes it possible for the first spouse or civil partner who passes away to leave their entire estate to their partner without triggering an IHT liability, regardless of whether it exceeds the nil-rate band..

Transferable Nil-Rate Band

The nil rate band (NRB), is also known as the inheritance tax threshold. It is the amount up to which an estate has no IHT to pay

When the first spouse or civil partner dies, the proportion of their NRB that is unused can be used by the surviving partner when they pass away. As doom & gloom as that might sound, it’s actually more of a light at the end of the tunnel. This makes tax planning easier and there is no panic about each spouse using up their own NRB.

If the entire estate is left to the spouse/civil partner on the first death, there will be two nil-rate bands to play with upon the death of the second.

If the first spouse or civil partner to die has used some of their nil rate band already e.g. to leave part of their estate to their children, the surviving spouse or civil partner can utilise the remaining portion. It should be noted that it is the unused percentage that is transferred, rather than the absolute amount unused at the time of the first death.

This gives an automatic uplift for any increases in the nil rate band. More on that later.*

Residence nil rate band

The residence nil rate band (RNRB) is an additional nil rate band which is available where a main residence is left to a direct descendant. It is set at £150,000 for 2019/20, and will increase to £175,000 for 2020/21. The RNRB is reduced by £1 for every £2 by which the value of the estate exceeds £2 million.

As with the nil rate band, the unused proportion of the RNRB can be transferred to the surviving spouse.

Example

George and Maud have been married for over 50 years. Maud died in 2017 leaving £32,500 to each of her two children. The remainder of her estate, including her share of the family home, was left to her husband George.

George dies in July 2019. At the time of his death, his estate was worth £780,000 and included the family home, valued at £550,000, which was left equally to the couple’s children, Paul and Joanna.

At the time of her death Maud had used up £65,000 of her nil rate band. The nil rate band at the time of her death was £325,000. The transfer to George was covered by the inter-spouse exemption and was free from inheritance tax. Maud has used up £65,000 of her nil rate band (20%), leaving 80% unused.

*Now you can hopefully see why the percentage was such an important distinction. Maud has not used her RNRB band as she left her share of her main residence to George.

On George’s death, the executors can claim the unused portion of Maud’s nil rate band and RBRB. The nil rate bands available to George are as follows:

Nil rate bands £
George’s nil rate band 325,000
George’s RNRB 150,000
Unused portion of Maud’s nil rate band (80% of £325,000) 260,000
Unused proportion of Maud’s RNRB (100% of £150,000) 150,000
Total £885,000

 

So although poor Maud & George have left us, you can see that since George’s estate on death is less than the available nil rate bands, no inheritance tax is payable.

Ultimately, while it might be difficult to think about, a little planning can shield your loved ones from a large tax bill. With the IHT rate currently sitting at 40%, we think it’s well worth a little discomfort!

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