The Autumn Statement rumour mill has begun to fire up, with Jeremy Hunt reportedly weighing up a potential slash to inheritance tax (IHT).
Tax cuts were apparently off the table at this year’s event, set to take place on Wednesday 22 November. In early October, Hunt described short-term tax giveaways as “virtually impossible”, stressing that bringing down inflation was the government’s chief aim.
But according to pre-Budget leaks, with inflation plummeting to 4.6% in October, and a combination of growing tax revenues and lower borrowing costs, Hunt now has some money to play with.
Reports suggest Hunt may cut the top rate of IHT from 40% to 30% - or possibly halve it - and increase the current tax-free thresholds. This would prove a popular move with voters, and the government clearly has this in mind with an election looming next year.
IHT may not be a big earner for the government – receipts are only around £7 billion a year, less than 1% of annual revenues – but it’s by far the most emotive tax. And payments are on a sharp upwards trajectory.
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The latest figures from HM Revenue and Customs (HMRC) show that IHT receipts leapt to £3.9 billion in the six months from April 2023 to September 2023, a £400 million uptick from the same period last year.
So, with this mind, let’s look at the chancellor’s potential reforms in greater detail and explain how they might affect you.
Rate slash and tax-free allowance uplift?
As things stand, only around one in 25 families pay IHT, so it’s not a problem for everyone. But for those who are affected, the bills can be hefty.
Halving the headline rate from 40% to 20% would reduce the average IHT bill from £214,000 to £107,000 - or £160,500 if the rate fell to 30%.
While slashing the IHT rate wouldn’t reduce the number of families impacted by the tax, it would ease some of the burden on those who are.
Elsewhere, reports suggest Hunt is also considering shaking up the tax-free thresholds, which would have a wider impact.
At present, the first £325,000 of your estate, known as the nil rate band, is IHT free. If you own your home and pass it to direct descendants (children, grandchildren, etc) on your death, you can get an extra £175,000 due to something called the residence nil rate band. This means the tax-free allowance for married couples could be £1 million.
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However, the residence nil rate band reduces by £1 for every £2 an estate exceeds £2 million, so bigger estates may not qualify.
Some have lobbied to kibosh the residence nil rate band and instead increase the nil rate band to £500,000, and this is something Hunt may choose to do. I would argue that this would create a system which is both simpler and fairer. The standard nil rate band has been frozen at £325,000 since 2009, so an uplift here seems long overdue.
According to calculations by Quilter, this reform would cost the Treasury on average £1.4 billion annually – not a huge sum in the grand scheme of things - and relieve roughly 12,500 families from paying IHT each year; a sharp drop from the 27,000 estates that paid the tax in 2020-21.
Why does IHT get such as bad rap?
It's fair to say IHT is a deeply unpopular tax. The thought of HMRC grabbing 40% on a portion of your hard-earned estate once you pass can be a bitter pill to swallow, and understandably so.
IHT was once considered a tax for the rich, but nowadays anyone who owns a home might be at risk. The combination of soaring property prices and frozen tax-free thresholds is dragging more estates into IHT territory.
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And there really is no way to sugarcoat it; the rules are complicated. Calls to make the landscape simpler stretch back several decades. There has been reform since, some of which has been favourable such as the introduction of the residence nil rate band, but things are still as very complex as ever.
Research from Just Group found that 51% of people are unaware of the IHT thresholds, while a further 8% are not sure.
Just’s research also found that half of retirees (50%) do not have a clear understanding of IHT rules and the amount that can be passed on.
Keep the threat of IHT in mind
Whether Hunt shakes up the IHT landscape or not, you must not overlook the threat that it poses to your family’s future. The good news is, with some careful planning, you can mitigate or even avoid the tax.
Under current rules you can gift £3,000 every year without them being added to your estate. If you didn’t use last year’s £3,000, you can bring that forward too, meaning a couple could give away £12,000 this year and not pay IHT.
However, if your estate is sizeable, this is unlikely to make much of a dent in your heir’s future IHT bill, so you may need to gift more aggressively.
For gifts you make above £3,000 a year, in most cases you need to survive seven years before the money or asset moves outside your estate. If your total gifts exceed the £325,000 nil rate band, the rate of IHT tapers down from year three.
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Just because your assets are currently below the tax-free thresholds doesn’t mean you won’t have a problem down the line. If, for example, you expect to inherit a hefty windfall at some point, then getting ahead can be a savvy move. While pocketing the windfall is not a foregone conclusion, it’s worth considering your plans for the money once it’s in your hands.
For instance, you might decide it would be better for some of the money to skip a generation and go straight to your kids. In the event of this, to avoid you receiving the money first and triggering the seven-year gifting rule, you can do a deed of variation. This allows you to adjust a will after death – a useful trick to swerve a potential IHT bill.
If you have an IHT problem that you’re looking to solve by gifting money or assets, the sooner you can do it, the better. But, as always, make sure you keep enough for yourself. There are few prizes for jeopardising your own financial future to ease your offspring’s tax bill.
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