Top 5 Tips For Reducing Your Inheritance Tax Bill

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When you pass away, the sum of everything you own — cash in the bank, shares, property, possessions etc. — is added together to form what’s known as your ‘estate’.

If, as a single individual on the date of your death, your total estate is valued at in excess of £325,000, inheritance tax may be due on anything you own above this threshold.

Inheritance tax is charged at 40% on most assets above the £325,000 threshold, which can quickly take a significant bite out of any legacy you were planning to leave your loved ones.

To get around a big inheritance tax bill, here are Drewberry’s top five tips and strategies for reducing the amount of inheritance tax you might have to pay.

1 :: Update / Make Your Will

First and foremost when it comes to inheritance tax planning, you need to have a will in place.

This will ensure you can maximise all allowances available to you by choosing who you pass your estate onto rather than it being decided by the rules of intestacy (which come into play when you die without a will).

Here, the government dictates to whom your money should pass, which can make avoiding inheritance tax tricky.

For instance, if you leave everything to your spouse / civil partner in your will, not only will there be no inheritance tax to pay but the surviving partner can potentially up to double their nil-rate band and their residence nil-rate band.

By the 2020/21 tax year, this combination of doubled nil-rate bands and main residence nil-rate bands means the surviving spouse could leave an estate of up to £1 million before any inheritance tax is due, providing the estate contains their main residence that they’re passing to direct descendants.

However, the rules of intestacy don’t allow you to leave everything to your spouse / civil partner if you have children from the union. If your estate is worth more than £250,000, under the rules of intestacy the first £250,000 goes to the spouse and the remainder is split in half, with the spouse / civil partner receiving half and the other half being split equally between any children (or held in trust if the children are minors).

2 :: Cut Inheritance Tax by Giving Gifts

There’s a range of gift allowances you can utilise each year to give away cash to whoever you like without those gifts ever attracting inheritance tax.

These gift allowances include:

  • Gifts to spouses / civil partners
    There’s no inheritance tax liability between husband and wife or civil partners.
  • The annual gift exemption
    Allows anyone to gift up to a combined total of £3,000 in each tax year (6 April to 5 April) to whoever they chose. You can carry over up to £3,000 in unused IHT allowance from one tax year to the next, but you must use up all of your allowance in that tax year.
  • Small gifts exemption
    Small gifts of up to £250 can be made to as many people as you choose – although you can’t use your annual exemption and your small gift exemption on the same person in the same year.
  • Wedding gifts
    You can gift up to £5,000 to your children / stepchildren as a wedding gift. Smaller allowances are available for grandchildren (£2,500) and gifts to friends or other relatives (£1,000).
  • Gifts to charities or political parties
    Certain gifts to political parties as well as those to charities, museums and universities are free from IHT. If you leave more than 10% of your estate to charity, your overall IHT rate is reduced to 36%.
  • Gifts for maintenance / living costs
    Help a former spouse, elderly dependent or child under 18 in full-time education with their living costs without any inheritance tax liability.
  • Gifts out of excess income
    This covers regular gifts only, such as Christmas and birthday presents, but you must prove that you are able to maintain your current standard of living after making said gifts. The gifts must form a pattern of gift-giving to pass this test and the rules are complex – seek advice before attempting to reduce your estate via this avenue.

Of course, some people look to give away gifts much larger than this to avoid inheritance tax. However, such gifts aren’t exempt from inheritance tax the second you give them away — rather, they’re considered only potentially exempt transfers.

Larger gifts given away during your lifetime — often known as ‘gifts inter vivos‘ — other than those listed above only become exempt from inheritance tax 7 years after making them, so think carefully before making such gifts.

It’s typically the recipient of the gift who must pay the inheritance tax should you pass away within 7 years of making said gift, so to protect individuals you’ve gifted significant sums of money to it may be prudent to take out inheritance tax Life Insurance.

As of the Spring budget 2023, the UK chancellor announced the abolition of the pension lifetime allowance (LTA). This came into effect from 6 April 2023.

It’s important to note however, the Labour party has announced that if they were to be elected, the allowance may be reintroduced in the future. If this occurs, we will update our records to reflect any changes. The information on this page is based on the LTA pre 6 April 2023.

3 :: Use Your Pension To Pass On Assets

Pensions have always been free from inheritance tax as they’re held in trust outside of your estate. But the new ‘pension freedoms’ removed the punitive 55% ‘death tax’ on pension assets,t making pensions one of the most tax-efficient ways in which to pass assets to your beneficiaries.

With a current lifetime allowance for pension assets of £1,055,000, a married couple can use their pensions to leave more than £2 million to their beneficiaries from a defined contribution scheme without attracting any inheritance tax (and possibly more if they previously applied for protection of their lifetime allowance).

Inheritance Tax And Defined Contribution Pensions

It’s easiest for your loved ones to inherit defined contribution or money purchase pensions, as these are essentially just pots of money saved up and invested to fund your later years.

For defined contribution pensions, if you die before the age of 75 and haven’t touched (‘crystallised’) your pension, your beneficiaries have 2 years to claim your entire pension pot entirely tax-free.

If you’re under 75 and have started accessing your pension via drawdown, then your loved ones can continue to receive drawdown payments tax-free from the pension pot or convert it to an annuity to provide a regular income (also paid tax-free).

If you’re over 75, there still won’t be any inheritance tax to pay on a defined contribution pension, but the recipient of the pension will have to pay income tax on any withdrawals (drawdown, annuity, etc.) they make from the scheme at their highest marginal rate.

Inheritance Tax And Defined Benefit Schemes

It’s much more difficult to inherit a defined benefit or final salary pension scheme, because such schemes are a promise to pay a pension out to an individual worker from retirement to their death.

There’s no ‘pot’ of money behind the pension that belongs to you per se, so there’s no funds earmarked for you for your loved ones to inherit.

Final salary pensions normally provide a pension for a widow(er) and potentially dependant children on your death, which will be a proportion of what you received while you were alive. However, while they won’t have to pay inheritance tax on this income, they will typically be charged income tax at their highest marginal rate.

4 :: Buy Inheritance Tax Insurance

When Whole of Life Insurance policies (Life Insurance that guarantees to pay out when you die, whenever that may be, providing you keep paying premiums) are written in trust, the proceeds are held outside of your estate for inheritance tax purposes.

Consequently, such policies can be used to provide a tax-free lump sum at death that can be used to pay off any outstanding inheritance liability that attaches to your estate.

This allows you to essentially ‘pre-fund’ your inheritance tax bill, reducing or eliminating the amount your estate will have to pay and therefore maximising your legacy to your loved ones.

5: Utilise Inheritance Tax-Free Investments

Too few people realise that ISAs are not exempt from inheritance tax. This means that the current inheritance tax liability on the UK’s ISA investments potentially runs to tens of billions.

However, there is a range of professionally managed portfolios that invest in AIM market stocks as a way to utilise business property relief and so avoid inheritance tax.

However, these investments can be illiquid, difficult to sell and, as with all investments, their value can fall as well as rise, meaning you could get back less than you paid in. As such, they won’t be right for everyone. To discuss whether AIM investments are the right option for you to avoid inheritance tax, don’t hesitate to get in touch.

There are also several IHT-exempt asset classes that can be utilised to reduce the bite that inheritance tax will take from your estate after you die. These include business assets, agricultural property, woodlands and heritage assets.

Again these investments aren’t the best option for everyone, so get in touch before attempting to limit your inheritance tax bill via such investments.

Need Inheritance Tax Advice?

There are so many things to consider when planning how you are going to pass your wealth from one generation to the next it is really important you consult and expert.

If you require any inheritance tax planning advice then please do not hesitate to pop us a call on 02084327334 or email

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