What is Inheritance Tax?
Inheritance Tax (IHT) is charged at 40% on the value of an estate above the nil rate band when someone dies. The standard nil rate band is £325,000 per person. On a £600,000 estate, IHT would be 40% of £275,000 = £110,000. IHT must usually be paid before probate is granted — which can create a cash flow challenge for beneficiaries.
"Inheritance Tax (IHT) is charged at 40% on the value of an estate above the nil rate band when someone dies"
The Nil Rate Band
Each individual has a £325,000 nil rate band. Married couples and civil partners can combine their allowances — any unused nil rate band from the first death transfers to the surviving spouse, potentially allowing up to £650,000 to pass tax-free. This transfer is not automatic — it must be claimed by the executor.
The Residence Nil Rate Band
An additional £175,000 nil rate band applies when a main residence is passed to direct descendants (children or grandchildren). Combined with the standard nil rate band, a couple can potentially pass up to £1 million free of IHT. This tapers by £1 for every £2 that the estate exceeds £2 million, disappearing entirely above £2.35 million.
Gifts and the 7-Year Rule
Gifts made more than 7 years before death are generally exempt from IHT. Gifts made within 7 years may be subject to IHT on a sliding scale (taper relief). Annual exemptions allow you to give away £3,000/year free of IHT (plus the previous year's unused allowance). Small gifts up to £250 per person per year are always exempt. Wedding gifts are also exempt up to certain amounts.
"Gifts made more than 7 years before death are generally exempt from IHT"
Exempt Transfers
Some transfers are always IHT-exempt: anything left to a spouse or civil partner (as long as they are UK-domiciled), gifts to UK-registered charities, gifts to political parties, and business or agricultural property that qualifies for relief. Pension funds also fall outside your estate for IHT purposes — making pensions an important estate planning tool.
Business Property Relief
Business Property Relief (BPR) can reduce the taxable value of certain business assets by 50% or 100%. Qualifying assets include shares in an unquoted trading company, interests in a business partnership, and certain AIM-listed shares held for 2+ years. This makes business ownership and AIM share investments valuable IHT planning tools for those with larger estates.
Using Trusts
Trusts can remove assets from your estate for IHT purposes while still allowing some control over how they are used. Discretionary trusts, bare trusts, and loan trusts each work differently. Trusts can be complex and have their own tax consequences — always take specialist legal advice before setting one up. The upfront IHT and ongoing charges have changed significantly in recent years.
"Trusts can remove assets from your estate for IHT purposes while still allowing some control over how they are used"
Practical Steps to Reduce IHT
Make a will — dying intestate can waste allowances. Use the £3,000 annual gift exemption every year. Consider giving away assets you do not need — the 7-year clock starts immediately. Write life insurance policies in trust so the payout falls outside your estate. Spend pension savings last, as they are generally IHT-free. Get professional advice if your estate exceeds £500,000.
Gifts made within 7 years of death are potentially subject to IHT under the Potentially Exempt Transfer rules — they do not escape IHT immediately. Seek specialist advice before making large gifts, particularly from pension funds or with complex assets.
Finance Motion — General guidance only.
Not regulated financial advice.