With the introduction of a new family home Inheritance Tax (IHT) allowance it could be worth checking to see if your will needs amending.
The allowance means that it is possible for couples to pass on a £1m family home without paying IHT. But, there is a tax trap to be aware of.
From 6th April 2017 each individual has an extra £100,000 tax free on their family home on death, on top of the existing £325,000 exemption. This increases by £25,000 year up to a maximum of £175,000 in April 2020.
This means a couple can pass £1m home to their beneficiaries without paying IHT. This is calculated at two x £325,000 plus two x £175,000 = £1m.
But, to get this relief you need to pass the property direct to your descendants, typically children and grandchildren. However, many couples have wills that pass their property to trust until the surviving partner dies.
The other catch is that you need to be careful not to build up value of the surviving partner’s estate because the new allowance is clawed back if the estate is worth over £2.7m.
Here is an example to illustrate the trap – a husband and wife have a home worth £2.5m, they have no other assets and want to pass the home to their children.
The husband dies in May 2020 when the new full £175,000 family home allowance is in place. The wife dies two years later when property is worth £3m.
If the husband leaves his half the family home to his wife there is no IHT on his death because there is a total exemption between couples. But, on her death the property is worth £3m so she will not qualify for the family home allowance and she cannot use her late husband’s transferred allowance either.
The IHT payable on her death would be £940,000. This is £3m estate less £650,000 (being the two IHT nil rate bands of £325,000) taxed at 40%.
However, had the husband left his half of the property (worth £1.25m at the time of his death) to the children he would have qualified for the family home. IHT on his death would have been £300,000. This is £1.25m, less his £500,000 (nil rate band of £25,000 and family home allowance of £175,000) taxed at 40%.
The IHT on the wife’s death would be £400,000. This is £1.5m estate less her £500,000 (nil rate band of £325,000 and family home allowance of £175,000) taxed at 40%. The total IHT would have been £700,000 – this is £240,000 or 25% less.
If you have not reviewed your wills or want to look at IHT for you or your parents get in touch.
Image from Flickr by Ken Mayer.