Careful planning is vital to avoid paying too much tax when you are alive.
Make a mistake when it comes to Inheritance Tax (IHT) however, and it is your loved ones who may face the consequences. With the current IHT rate at 40% on estates above the threshold of ยฃ325,000 (or ยฃ500,000 if the main residence is left to direct descendants), the cost of errors can be significant. Here are some common mistakes people make with inheritance taxโand how to avoid them.
1. Failing to Plan Ahead
One of the biggest mistakes is waiting too long. Many people only begin thinking about IHT when it feels imminent, often in later life, which may limit the strategies available.
None of us know how long we have, and the sooner you start planning, the more options you have to mitigate the impact of IHT on those you leave behind.
For example, some ways to reduce IHT, such as gifting assets or placing them into trusts, require you to survive for seven years after the transfer for the full benefit. Delaying these decisions could mean that these opportunities are missed entirely.
Solution: Start estate planning as early as possible. Work with a financial advisor to explore tax-efficient options well before you and your family know they are needed.
2. Ignoring the Annual Gift Allowance
Everyone can gift up to ยฃ3,000 each tax year without it being subject to IHT. However, many people fail to take advantage of this concession. If unused, the allowance can only be carried forward for one tax year, potentially missing out on thousands of pounds in tax-free gifting opportunities.
Solution: Make full use of the annual gift allowance by gifting to family members or other beneficiaries each year. Small, consistent gifts can add up significantly over time.
3. Overlooking trusts
Trusts can be a powerful tool for inheritance tax planning, when assets are placed in a trust, they are removed from your estate, which can reduce or eliminate the IHT liability. Additionally, trusts allow you to control how and when assets are distributed to beneficiaries - but many people are unaware of their benefits or view them as overly complex.
Solution: Consult with a financial advisor to explore how trusts can work for your situation. Trusts can be tailored to meet specific needs, such as providing for children or protecting family wealth.
4. Underestimating property value growth
Rising property values may mean many estates that include the family home inadvertently exceed the IHT threshold. While the Residence Nil-Rate Band (RNRB) allows an additional ยฃ175,000 to pass tax-free to direct descendants, it may not cover the full value of a property. Many people fail to account for this, leaving a larger-than-expected IHT bill.
Solution: Regularly review your estate's value, particularly your property. Consider options such as downsizing or placing the property in a trust to mitigate IHT. When you put your house into trust it is outside of your taxable estate after 7 years. This could significantly reduce the inheritance tax bill that your beneficiaries are faced with when you pass away.
5. Not Leaving a Valid Will
Dying without a valid willโreferred to as intestacyโcan mean unintended tax consequences. Without a will, your estate may not be distributed according to your wishes, potentially increasing the IHT burden or leaving loved ones with less than you intended.
Solution: Create a valid will and review it regularly, particularly after significant life events such as marriage, divorce, or the birth of a child.
6. Misjudging the Seven-Year Rule
Gifts made during your lifetime may still be subject to IHT if you pass away within seven years of making them. This is often misunderstood, leading to unexpected tax liabilities for beneficiaries. Additionally, taper relief, which reduces the IHT rate on gifts made more than three years before death, is not always correctly applied.
Solution: Keep records of gifts made and understand how taper relief works. Seek advice before making significant gifts to ensure they are structured correctly.
7. Failing to use Business and Agricultural Reliefs
Business Relief (BR) and Agricultural Relief (AR) may reduce IHT liability โ even with the Chancellorโs plan to tax farmers. However, many people either do not realise they qualify or fail to take the necessary steps to claim them.
Solution: If you own a business or agricultural property, get expert advice.
8. Neglecting to communicate with Family
Inheritance tax planning often fails due to a lack of communication. Family members may be unaware of plans, leading to disputes or the mismanagement of assets after your death.
Solution: Have conversations with your family about your intentions.
9. Not getting expert advice
Inheritance tax can impact the legacy you leave, but many common mistakes are entirely avoidable with proactive planning and professional guidance. From making full use of allowances to leveraging trusts and reliefs, careful preparation can save your family from unnecessary financial and emotional stress.
Solution: Call us at Continuum today.
The information contained in this article is based on the opinion of Continuum and does not constitute financial advice or recommendation to suitable Inheritance Tax mitigation strategy. You should seek advice from a qualified tax professional regarding your own circumstances before embarking on any course of action.
The Financial Conduct Authority does not regulate taxation and trust advice or will writing.
