UK inheritance tax (IHT) is levied at a flat rate of 40% on all assets above the 'nil rate band', cu...
UK inheritance tax (IHT) is levied at a flat rate of 40% on all assets above the 'nil rate band', currently worth £312,000. If an individual is UK domiciled or deemed domiciled, their worldwide assets are chargeable, regardless of whether the individual lives in the UK or not. If an individual is non-UK domiciled, only UK based assets are subject to IHT.
When property passes from one spouse to another, unlimited transfers are exempt from IHT provided that both spouses are non-UK domiciled, or that the receiving spouse is UK domiciled.
Prior to 9 October 2007, if all the deceased's estate passed to the spouse under such an exempt transfer, the deceased's nil rate band was effectively 'wasted'. Since this date, however, it is now possible for the surviving spouse or civil partner to inherit the unused portion of the nil rate band in respect of the death of the first to die. It does not matter when the first spouse died, and the unused amount is expressed as a percentage, which means that the total nil rate band available on the surviving spouse will be based on the actual nil rate band available at the time of the survivor's death.
For example, say the first spouse died in 1995/96, when the nil rate band was £154,000, and left his whole estate to his UK domiciled spouse, who subsequently dies in 2010/11, when the nil rate band is proposed to be £350,000. As 100% of the first spouse's nil rate band is intact, the surviving spouse's estate will have a nil rate band of £700,000 available.
For married couples who have different domiciles, whether these changes are advantageous or not will depend on which direction the inheritance is going.
Where the first to die is the non-domiciled spouse, the changes work particularly favourably. This is because the nil rate band is transferable even in situations where there was in fact no IHT due.
The non-domiciled spouse could ensure that all his property is held outside the UK, which would be classed as excluded property, and therefore exempt from IHT. In this instance, the survivor's estate would have double the nil rate band available on their death.
This would be useful in many situations. For example, one could ensure that the half-share in the family home is the only UK asset present on the first death. The overseas assets could then be left in an offshore discretionary trust. Such a trust would be outside the IHT net on the first death, and would also remain outside the estate of the surviving beneficiaries, ensuring that the assets are free of IHT for the surviving spouse and future generations.
What is not so good is where assets are going the other way, i.e. where the first spouse to die is UK domiciled, and the recipient spouse is non-UK domiciled. In this case, there is no general spousal exemption available. Instead, assuming no transfers of value have occurred in the seven years preceding death, there is a lifetime exemption of £55,000, plus the nil rate band.
This means that either there is going to be an immediate IHT liability, or little or no remaining nil rate band available for transfer on the second death. It is therefore crucial that couples in this position take good advice on how to mitigate IHT during their lifetimes.
One final point of note in relation to civil partnerships - there may be couples who have entered into a civil partnership under a foreign legal system that recognised such unions before they were possible in the UK. In this instance, the nil rate band will only be transferable if the first death occurred on or after 5 December 2005 (the first date such unions were recognised in the UK).
- Brendan Harper is technical services manager at Friends Provident International.
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