Inheritance Tax  

How to navigate inheritance tax with clients

  • List some of the main technical issues that advisers face in dealing with inheritance tax.
  • Describe when RNRB applies and reducing the value of an estate.
  • Identify how charitable bequests work and the complexities around BPR and CGT.
How to navigate inheritance tax with clients

Inheritance tax (IHT) is a minefield.

This article guides advisers through some of the many technical issues they face.

Are all pension scheme death benefits free from inheritance tax?

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While it is generally the case that pension death benefits are free from inheritance tax, there are some notable exceptions. For example, the NHS Pension Scheme, which has more than a million members, is not a discretionary scheme.

Although the member can nominate a beneficiary, the death benefit lump sum is included in the estate for inheritance tax.

Retirement annuity plan death benefits are also included in the estate, although the policies can be written into trust to avoid inheritance tax, making it imperative to check each policy.

Can the residence nil rate band be claimed if the main residence is passed into trust?

The residence nil rate band (RNRB) is available when the estate’s residence is closely inherited (described as a qualifying residential interest, or QRI), meaning it passes to:

  1. A child or remoter lineal descendant. Child includes step-child, foster child, and a person appointed by a court order as a guardian or special guardian if that appointment took effect when the child was under the age of 18.
  2. An individual who was a spouse or civil partner of a lineal descendant at the time of the deceased’s date of death. If the lineal descendant had died this only applies if the individual has not subsequently remarried or entered into a new civil partnership.

Where the QRI is closely inherited, the RNRB can be claimed if it passes into:

  • An immediate post death interest in possession trust;
  • A disabled trust;
  • A bare trust;
  • An 18-25 trust;
  • A bereaved minor's trust.

What about discretionary trusts?

Although the RNRB is not available where the QRI passes into a discretionary trust, even if all potential beneficiaries are lineal descendants, if an appointment is made within two years of death to a lineal descendant the trustees can claim the RNRB retrospectively (Inheritance Tax Act 1984, Section 144).

Note that where a will has a clause leaving a property to a grandchild, such as ‘to my grandson John on attaining age 25’, the RNRB is not available if John is a minor at the date of death because it is a relevant property trust.

If the will was worded ‘to my grandson John’, the RNRB would be available because it would be a bare trust – with John able to take legal title at age 18.

Is an unused RNRB always transferred to a spouse or civil partner?

If the RNRB is not used on death, it can usually be fully used by the deceased’s spouse or civil partner.

However, this is not the case if the deceased’s own estate is large, in which case the amount that is inherited by the surviving spouse is reduced by £1 for every £2 the estate exceeds £2m.

For example, Mr Lannister dies, leaving his entire estate of £3m to Mrs Lannister. Mrs Lannister, after a run of bad luck at Monte Carlo and Ascot, dies leaving an estate of £1m.

Although her personal representatives can use the inherited nil rate band from her husband, there is no inherited RNRB available.

RNRB ‘deathbed’ planning – how do we reduce the value of an estate?

An individual with an estate of more than £2m can make potentially exempt transfers (PETs) to bring the estate below £2m.