Inheritance Tax: The Bullet That Bears Your Name

The recent increase in the Inheritance Tax nil band from £285,000 to £300,000 [for 2009/2010 now £325,000 Ed] has again failed to keep pace with house price inflation and leaves an increasing number of dentists in a new tax net. Harry winter, tax partner at Dental Business Solutions an a member of the Association of Specialist providers to Dentists, explains the problem.

ASPD members offer professional, objective and practical advice and services, based on experience within the industry, to dental practices and other businesses within the dental sector. ASPD members include solicitors, accountants, banks, financial advisers, valuers and sales agencies, insurance brokers and leasing and finance companies.

It is now well known that Inheritance Tax, the grandson and heir to the old Estate Duty, no longer remains within the province of those who have substantial landed estates and vast personal wealth. Inheritance Tax is principally a charge to tax on the value of estates at the time of the owners death (it can also in certain circumstances be charged on lifetime transfers). In some ways therefore it is the ultimate stealth tax since, in the absence of having devised a means of actually taking it all with him, the taxpayer himself cannot have any personal interest. Nevertheless it can be extremely frustrating to know that the fruit of a lifetime’s endeavour is going to be subject to another 40% swipe from the Treasury particularly where, in the course of being put together, the estate has already been subject to Income Tax, Capital Gains Tax, VAT, National Insurance Contributions, Stamp Duty.

Careful tax planning can mitigate or even extinguish altogether a potential liability to Inheritance Tax. The problem for the middle classes however is that in most cases much of the estate will be tied up in the value of the family home. The tax itself does not begin to bite until the so-called “nil band” has been exceeded [currently this stands at £325,000 – 2009/2010] but of course many homes will easily exceed this value even before the rest of the estate is considered. This is of course not entirely bad since one might rather have a home worth £600,000 and pay tax of £120,000 rather than have a home worth £300,000 and pay no tax at all. The problem with the first case however is that notwithstanding the option to pay by instalments it may be necessary to sell the home to pay the tax, so that in the event the heirs may not inherit a home at all. And since government policy is not to increase the Inheritance Tax nil band in line with house price inflation the problem is likely to get worse before it gets much worse.

If this is anything it is certainly not a no brainer. Since the tax first came into existence the finest tax eggheads in the country have devoted themselves to getting round the problem and have thereby initiated a sort of taxation arms race as the government has sought to break down the existing schemes or to block them by changes in legislation. Prominent among such changes in 2005/06 was the introduction of the Pre-Owned Assets rules which in certain circumstances substituted an Income Tax charge where an Inheritance Tax charge had successfully been avoided. This is in addition to the re-introduction of the Gifts with Reservation of Benefit legislation, a provision of the old Estate Duty regime which denies the tax effectiveness of giving away your house during your own lifetime but continuing to live there yourself.

So it’s tricky. One step in the right direction can be made in ensuring that both of the Inheritance Tax nil bands available to a married couple are utilised. It is not unusual for a married couple to have simple cross-over wills whereby the surviving spouse inherits the entire estate of the deceased on the first death. Since by definition there is no tax on transfers between husband and wife then the survivor’s inheritance is free of tax so far so good. The problem lies in the fact that the £300,000 in tax nil band dies, unused, with the deceased. On the second death only one nil band remains and therefore the ultimate tax bill is potentially £120,000 (£300,000 x 40%) higher than it might otherwise have been. A way round this is to ensure that the property is owned between the two as tenants-in-common and then for each party to will his/her share down a generation on the first death. This is effective for tax purposes but it does create a problem of security of tenure for the survivor since they will not then be the legal owner of part of their own home. Traditionally the way round this has been to establish ownership through a discretionary trust set up by will, however following changes in Trust tax law which were introduced in 2006 great care must be exercised in ensuring that the will trust does not constitute a life interest trust since this will invalidate the planning. Here as elsewhere expert advice needs to be sought before any planning is undertaken.

Aside from the matter of the family home it is not unusual for the wills of married couples to be drafted including a nil band provision which seeks to make sure that the value of this exemption is not lost on the first death. Other matters which will always be considered as part of any Inheritance Tax planning exercise are-

If you die whilst still in business then the value of your business may be covered by Business Property Relief. The present rate of this relief for most qualifying business assets is 100% (50% for some others) and can extend to the shares if you business has been incorporated,
Generally speaking gifts and transfers made during lifetime rank as Potentially Exempt Transfers (PETS) and will not form part of the taxable estate if made more than seven years before the date of death,
Trusts can be used to take taxable assets out of an individual’s estate, although great care needs to be taken as trust tax law was radically overhauled in 2006,
Each individual has an annual exempt amount of £3,000 which will not be considered for Inheritance Tax purposes if it is used. If it is not used then it can be carried forward for one year only,
Gifts made regularly out of spare income do not count for Inheritance Tax purposes. ‘Spare’ income constitutes that which is not required to maintain an individual’s normal standard of living,
• As mentioned above, transfers between spouses are exempt. This now includes civil partners,
• Gifts made in consideration of marriage are exempt up to a maximum of £5,000 made by a parent,
• Other specified types of gifts are also exempt. These include gifts to charities, political parties, community amateur sports clubs, housing associations, gifts for national purposes and gifts for the public benefit.

From the planning point of view therefore there is quite a lot to shoot at. If you perceive an Inheritance Tax problem the golden rule is to take advice and do something about it while there is still time. The soubriquet of Inheritance Tax as the ‘voluntary tax’ is optimistic but something can usually be done at least to mitigate the position. Often this can be achieved without the erecting of elaborate, esoteric and expensive mirrors and smoke. A stitch in time…

Harry Winter
Tax Partner
Dental Business Solutions.

This article reflects UK tax law as it stands at the above date. The information provided is of a general nature and is not intended to address the circumstances of any particular individual. Whilst every care has been taken no responsibility for anyone acting upon or refraining from acting upon the information provided can be accepted.

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