August 2015 – “It’s not fair and we will act” – The new Inheritance Tax allowance for residential property

Author: Mitchells Roberton
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  • One of the things in George Osborne’s Summer Budget speech which attracted a lot of attention was the announcement of the phasing in of a new Inheritance Tax (“IHT”) allowance of £175,000 (to be added on to an individual’s existing IHT “nil rate band” of £325,000) where a family residence is left to children.
  • In principle, this may give an individual a “nil rate band” of £500,000. For a married couple or civil partners this may mean a “nil rate band” of £1m between them. In George Osborne’s words:

“Inheritance tax was designed to be paid by the very rich. Yet today there are more families pulled into the inheritance tax net than ever before – and the number is set to double over the next five years… It’s not fair and we will act. The result for families is this. You can pass up to £1 million on to your children free of inheritance tax. No more inheritance tax on family homes.”

 Its-not-fair-and-we-will-act-The-new-Inheritance-Tax-allowance-for-residential-property

A preparatory word about “nil rate bands” (“NRBs”) 

  • Before turning to this new “main residence NRB” a word is said about how an individual’s basic NRB of £325,000 works on death.
  • In principle IHT is payable at 40% on the value of everything you own at death (less allowable debts). But there are two key qualifications to this: first, anything that passes to your spouse is free of any IHT; and, secondly, anything else up to £325,000 does not suffer any IHT.
  • So, for example: Mr A dies with an estate of £500,000 (after allowable debts); he leaves a legacy of £16,250 to his son; and leaves everything else to his spouse. So his spouse gets £483,750 which is free of any IHT, and his son gets £16,250 which is easily within Mr A’s NRB of £325,000. So there’s no IHT at all on Mr A’s death.

A preparatory word about “transferable nil rate bands” (“TNRBs”) 

  • For married couples and civil partners each of the couple’s individual NRB is transferable between them.
  • In short, the amount of the NRB on the death of the second of the couple to die is increased by the percentage of the NRB which was not used on the first death.
  • So, using the same facts as in the example above: suppose Mr A dies with an estate of £500,000 (after allowable debts); he leaves a legacy of £16,250 to his son; and leaves everything else to his spouse, Mrs A.
  • Although there is no IHT on Mr A’s death (because the legacy to his son of £16,250 is easily within  Mr A’s  NRB of £325,000) nevertheless the £16,250 legacy to his son uses up £16,250 or 5% of Mr A’s NRB leaving 95% of his NRB unused.
  • So, on the later death of Mrs A she will have a NRB of £633,750 (i.e. £325,000 increased by 95%). If her own estate on death including what she inherited from Mr A is less than her increased NRB of £633,750 then there’ll be no IHT on Mrs A’s death.

The policy objective of the new main residence NRB 

  • The UK Government’s stated policy objective with this new main residence NRB is:

“This measure will reduce the burden of IHT for most families by making it easier to pass on the family home to direct descendants without a tax charge.”

Some of the key elements of the new main residence NRB 

  • The measure introduces an additional NRB when a main residence is “inherited” by a “direct descendant” (see below). It will apply to transfers on death on or after 6 April 2017 and will be phased in as follows:

Up to £100,000 in 2017 to 2018
Up to £125,000 in 2018 to 2019
Up to £150,000 in 2019 to 2020
Up to £175,000 in 2020 to 2021

  • A “direct descendant” will be a child (including a step-child, adopted child or foster child) of the deceased and their lineal descendants and so includes, in particular, grandchildren.
  • In general the term “inherited by” a direct descendant requires that the property be transferred to them. Subject to various exceptions, it will not apply if the property is settled in trust.
  • The main residence NRB will be limited to one residential property but a deceased’s executors will be able to nominate which residential property should qualify if there is more than one in the estate. A property which was never a residence of the deceased, such as a buy-to-let property, will not qualify.
  • The main residence NRB will be transferable where the second spouse or civil partner of a couple dies on or after 6 April 2017 irrespective of when the first of the couple died and will be transferable in much the same way as the basic NRB of £325,000 is transferable.
  • The Finance Bill 2016 will provide that where part of the main residence NRB might be lost because the deceased had downsized to a less valuable residence or had ceased to own a residence on or after 8 July 2015, that part will still be available provided the deceased left that smaller residence, or assets of equivalent value, to direct descendants.
  • The technical details of how the additional nil-rate band will be enhanced to support those who have downsized or ceased to own their home will be the subject of a consultation to be published in September 2015 ahead of the draft Finance Bill 2016.

Note: This material is for information purposes only and does not constitute any form of advice or recommendation by us. You should not rely upon it in making any decisions or taking or refraining from taking any action. If you would like us to advise you on any of the matters covered in this material, please contact Neil Mackenzie: njm@mitchells-roberton.co.uk

 

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