Malcolm Finney warns how easy it can be to lose part of the inheritance tax residence nil rate band.
Most people will perhaps recall the Conservatives announcing that no-one dying with an estate of up to £1 million will pay inheritance tax (IHT) in future. Well, as so often with politicians, the announcement was only a half truth.
For IHT purposes, everyone is entitled to what is referred to as a nil rate band (NRB). Currently, the nil rate band is worth £325,000, which means that if no lifetime gifts have been made, then on death up to £325,000 of a person’s estate will not suffer an IHT charge (technically, it will, but at a rate of 0%). Thereafter, the excess is generally taxed at 40%.
The introduction of the residence nil rate band
The residence nil rate band (RNRB) is effective for deaths on or after 6 April 2017, and its amount depends on the tax year of death; for the tax year 2017/18, the RNRB is £100,000; 2018/19, £125,000; 2019/20, £150,000; and 2020/21, £175,000. The RNRB is in addition to the NRB, and the Conservatives’ reference to the million-pound estate being IHT-free is only true for a married couple whose aggregate estates equal £1 million and where one of them dies on or after 6 April 2020
Example 1: The £1 million couple Mr & Mrs Rich - no IHT to pay
Mr Rich has an estate worth £600,000, and his wife has an estate worth £400,000. Their respective estates include a 50% interest in their family home, which is worth £500,000.
Mr Rich dies in October 2017, leaving everything to his wife. She dies in July 2020, with an estate of £1 million.
Mrs Rich is entitled to a NRB (£325,000) plus a RNRB (£175,000). However, as her husband used neither his NRB nor his RNRB, his wife is entitled to transfer them to herself. She is thus entitled to an aggregate NRB of £650,000, plus an aggregate RNRB of £350,000 i.e. £1 million. No IHT is therefore payable on her death.
Entitlement to the RNRB requires that the family home (or an interest in it) is left by will to one or more lineal descendants (e.g. children, grandchildren, etc.) of the deceased.
Example 2: The £1 million couple Mr & Mrs Rich - but with IHT to pay
Mr Rich has an estate worth £600,000, and his wife also has an estate worth £400,000. Their respective estates include a 50% interest in their family home, which is worth £500,000.
Mr Rich dies in October 2017, leaving everything to his wife except for his 50% share of their residence (worth £250,000), which he leaves to their son. No IHT charge arises, as Mr Rich is able to utilise his £100,000 RNRB and £150,000 of his £325,000 NRB.
Mrs Rich dies in July 2020, with an estate of £750,000.
Mrs Rich is entitled to a NRB (£325,000) plus a RNRB (£175,000). However, as her husband had used all his RNRB and £150,000 of his NRB of £325,000 (i.e. had unused 53.8% of his NRB), Mrs Rich became entitled to her own RNRB of £175,000, plus her own NRB of £325,000, plus 53.8% of £325,000 (representing a transfer of her husband’s unused NRB), making £675,000.
Mrs Rich, therefore, has an IHT liability of 40% of [£750,000 - £675,000] i.e. £30,000.
The IHT charge arises in Example 2 because Mrs Rich was unable to claim her husband’s unused RNRB (as he had used it) and could only claim part (not all) of his NRB, compared to the scenario in Example 1. In Example 1, the RNRB available to Mr Rich on death was £100,000. However, as he used no part of it (i.e. 100% was unused) then Mrs Rich became entitled to her RNRB £175,000 plus 100% of her RNRB, i.e. £350,000 (not £175,000 + £100,000 as might be thought).
Don’t leave the family home to the children!
As is evident from Examples 1 and 2, maximisation of the RNRB for Mr and Mrs Rich arises where Mr Rich does not leave his interest in the family home to anyone other than Mrs Rich. This is because the absolute amount of RNRB increases each tax year.
Points to note
It also needs to be noted that, first, the RNRB is only available on death (whereas the NRB applies to lifetime gifts and on death). Second, entitlement to the RNRB requires that the residence (typically the family home but not, for example, a buy-to-let property) must be left only to the deceased’s lineal descendants (i.e. children, grandchildren, great-grandchildren, etc.); children for this purpose includes step and adopted children. Third, ‘downsizing’ will not necessarily mean that the RNRB is lost.
Losers
But who loses out?
Two key categories of person lose out, namely those without children and those who have never owned a residence and, to some extent, cohabitees.
Practical Tip:
Revisit any will to make sure the RNRB is not at risk of loss.
Malcolm Finney warns how easy it can be to lose part of the inheritance tax residence nil rate band.
Most people will perhaps recall the Conservatives announcing that no-one dying with an estate of up to £1 million will pay inheritance tax (IHT) in future. Well, as so often with politicians, the announcement was only a half truth.
For IHT purposes, everyone is entitled to what is referred to as a nil rate band (NRB). Currently, the nil rate band is worth £325,000, which means that if no lifetime gifts have been made, then on death up to £325,000 of a person’s estate will not suffer an IHT charge (technically, it will, but at a rate of 0%). Thereafter, the excess is generally taxed at 40%.
The introduction of the residence nil rate band
The residence nil rate band (RNRB) is effective for deaths on or after 6 April 2017, and its amount depends on the tax year of;
... Shared from Tax Insider: Maximising Residence Nil Rate Band Relief
