The residence nil rate band (RNRB) came into force on 6 April 2017. The RNRB is available when a person who dies on or after that date holds a ‘qualifying residential interest’ (QRI) at their death, which is ‘closely inherited’ by a ‘lineal descendant’. A QRI is an interest in a dwelling house which has, at some time during the period of ownership, been the residence of the deceased. Any unused portion of the RNRB is transferable to the surviving spouse in the same way as the NRB. There are taper withdrawal and downsizing provisions to consider.
6 April 2017 welcomed the residence nil rate band, which aims to achieve the £1m inheritance tax (IHT) allowance (the amount of the estate which is taxed at 0%) for married couples. The first provisions were set out in the F(No. 2)A 2015, which inserted ss S8D-S8M into IHTA 1984. The Finance Act 2016 made further provisions in relation to downsizing.
The total IHT allowance of £1m is achieved through a combination of:
- the nil rate band (NRB), taxed at £325,000 until April 2021
- the transferable NRB between spouses/civil partners, and
- the residence nil rate band (RNRB)
The RNRB is available when a person who dies on or after 6 April 2017 holds a ‘qualifying residential interest’ (QRI) at their death, which is ‘closely inherited’ by a ‘lineal descendant’.
The RNRB is being phased in over a four year period so that the available RNRB will be:
- £100,000 in 2017/18
- £125,000 in 2018/19
- £150, 000 in 2019/20
- £175,000 in 2020/21
Following this, the RNRB will rise in line with the consumer price index. The RNRB is capped at the value of the deceased’s residential interest.
What constitutes a qualifying residential interest?
A QRI is an interest in a dwelling house (including a garden or grounds of any size, but not including woodland attracting relief from IHT) which has, at some time during the period of ownership, been the residence of the deceased (thus precluding buy to let properties). It need not have been the deceased’s ‘main’ residence, nor is there a requirement that the deceased was resident for the entire period of ownership (IHTA 1984 s 8H).
Whether the property is a ‘residence’ will presumably be decided on the basis of existing case law, considering ‘main’ residence relief for CGT (see Goodwin v Curtis  STC 475). A recent CGT case, Dutton-Forshaw  UKFTT 478, set out that there needs to be an element of permanence and continuity of occupation, but the level required will undoubtedly depend on other influencing factors. The property need not be situated in the UK.
A residence, or interest in a residence, left to immediate post-death interest trusts, disabled person’s trusts (IHTA 1984 s 89) or bereaved minor trusts (IHTA 1984 s 71A or s 71D), will be treated as inherited. A discretionary trust will not qualify even if all of the potential discretionary beneficiaries are lineal descendants. Issues surrounding the use of non-qualifying trusts are possibly the most important practical consideration for day to day estate planning.
A relevant property trust will not qualify but it would be possible to make an appointment from the trust within two years of death for this appointment to be read back into the will for IHT purposes (IHTA 1984 s 144). The appointment mechanism could be used to appoint a residence to a lineal descendant or to create a qualifying immediate post-death interest trust.
If the deceased owned more than one QRI in different dwellings, then the personal representatives of the deceased must nominate which property the RNRB will apply to.
Debt charged over the property is deducted for IHT purposes and will therefore reduce the property value (potentially reducing the available RNRB). Part of the estate planning process may involve considering whether it would be appropriate to switch the charges to other assets to preserve the RNRB.
A lineal descendant includes children, grandchildren, step-children, foster children, children under a special guardianship order and adopted children (and the lineal descendants of all of the aforementioned). A lineal descendant does not include nieces or nephews or wider family members (IHTA 1984 s 8K).
Closely inherited means that the property must pass to a lineal descendant or to a spouse of a lineal descendant (including a spouse of a pre-deceased lineal descendant provided that the surviving spouse has not remarried) by will, under an intestacy or survivorship, or by deed of variation. A deed of variation is a useful mechanism that could be used to vary the position post death to ensure that the RNRB is available, as this can be read back for all IHT purposes under the IHTA 1984 s 142.
It could also be that property was subject to a gift with a reservation of benefit, in which case the property would form part of the deceased’s estate and could therefore be closely inherited.
It is worth the usual cautionary note: if a variation is to be relied upon (i.e. practitioners that advise that a change in will drafting is not necessarily required as s 142 may be utilised), there is always the potential that the law regarding the ability to vary post death may change.
Any unused portion of the RNRB is transferable to the surviving spouse in the same way as the NRB (IHTA 1984 s 8A). This occurs where the first deceased spouse did not have a QRI on their death, or where a QRI was not left to lineal descendants. As such, the transferable RNRB can be claimed even if the first to die did not have any property. The transfer of the RNRB must be claimed and is only available on death and cannot be claimed for lifetime transfers.
The RNRB can only be transferred where the surviving spouse (second death) dies on or after the 6 April 2017. If the predeceased spouse died before 6 April 2017, the amount transferable to the surviving spouse is £100,000. As with the NRB, the transferable RNRB is capped at an additional 100% of a surviving spouse’s available RNRB; however, more than one pre-deceased spouse’s RNRB can be transferred. Taper withdrawal (as explained below) also applies to the transferable RNRB where the predeceased spouse’s estate was worth £2m or more.
Where the transferable RNRB is available from a predeceased spouse or spouses, either the personal representative of the surviving spouse or the person liable to pay the inheritance tax due must claim this amount within the latter of two years from the end of the month in which the surviving spouse died, or of three months from when the personal representatives started acting (IHTA 1984 s 8B).
Taper withdrawal provisions
A taper threshold has been set at £2m until 2020/21 tax year (IHTA 1984 s 8D(5)(b)), meaning that for every £2 in a net estate above £2m, £1 will be withdrawn from relief. Therefore, by 2020/21, there will be no RNRB available to an estate worth £2.35m.
‘Estate’ has the usual meaning under IHTA 1984 s 5 and includes exempt gifts on death and assets qualifying for business property relief (BPR) or agricultural property relief (APR), as well as assets in which the deceased had a QRI and gifts in which the deceased had reserved a benefit. The taper of the RNRB is not curtailed to the net value of residential property only. The value of the estate is the estate immediately before death, minus liabilities, but before the deduction of any reliefs or exemptions. The taper withdrawal is calculated by deducting the taper threshold from the value of the estate. This figure is then deducted from the default allowance (the total of any transferred RNRB and the available residential enhancement) and divided by two.
If the estate is likely to exceed the threshold, it is advisable to consider reducing the estate through making lifetime gifts, which are not included in the estate value for taper relief. It is not advised to aggregate spouses’ estates so that they exceed the threshold. Another approach may be to consider using NRB discretionary trusts.
Downsizing provisions have been included in FA 2016 (Sch 15 Part 5 which inserted IHTA 1984 ss 8FA–8FE) to avoid the scenario where people who have downsized, or have disposed of their QRI (for example, to release equity to meet care needs or to move to a smaller property), suffer detriment.
For downsizing, the total chargeable estate passing on death must be greater than the value of any residential property once owned. Downsizing is capped at the value of the closely inherited property and cannot be claimed on gifts of a residence creating a reservation of benefit. These are complex rules and it is imperative that anyone who is downsizing keeps detailed records of the transactions.
The death must occur on or a.er 6 April 2017 for the RNRB to be available but there is no limit as to how long before the death the property was sold or downsized, or how many times you can downsize. The downsizing provisions are not available where the deceased occupied the property under the terms of a trust and the trustees sell or downsize on their behalf.
If you take an example of when a property is downsized the complexities become clear.
Example 1: Downsizing
Mrs Brown sells her property in 2019 for £500,000 and buys a smaller flat, worth £200,000. The RNRB in 2019/20 is £150,000. When Mrs Brown dies, in the 2020/21 tax year, she leaves the flat to her friend, Mrs White, and the remainder of her estate passes to her daughter. The RNRB in 2020/21 is £175,000. (N.B. there is no RNRB available to be transferred.)
The maximum RNRB on the sale of the original property was £150,000 and this property was worth £500,000. If you divide the original value with the RNRB, you get 33.33%; however, as the value of the house is more than the maximum RNRB, this is limited to £150,000.
Conditionally exempt property (heritage items)
If any part of the QRI is a conditionally exempt transfer under IHTA 1984 s 30, it is treated as not being closely inherited and the RNRB cannot be used. However, the RNRB can be transferred for use upon the death of a surviving spouse as long as no charge is triggered. The amount of the RNRB is limited by the value of the property, so the RNRB cannot exceed the value of the chargeable estate. Any property attracting APR or BPR, and any debts or charges on that property, would also be deducted prior to any calculation.
Consider the following example of how to apply the NRB when the home is worth less than the maximum RNRB.
Example 2: When the home is worth less than the maximum RNRB
Mrs Anthony dies, predeceasing her husband and her son. Her death occurs in the tax year 2017/18, leaving a flat worth £75,000. She leaves this interest in the property to her son. She has other assets of £400,000, which she also passes to her son. The remaining assets of £500,000 are left to her surviving husband. The maximum RNRB for 2017/18 is £100,000 and the NRB is £325,000. However, as the value of the RNRB is greater than the property value, only the value of the property can be claimed as the RNRB.
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First, consider the following questions:How to calculate the RNRB
- Has the deceased died on or after 6 April 2017?
- Does the estate include a QRI?
- Has the QRI been closely inherited by a lineal descendant?
If the answer to any of those questions is ‘no’, then consideration should be given to carrying forward the unused RNRB to a surviving spouse (and to what evidence may be required on the second death to support this).
If the answer to all three questions is ‘yes’, then:
- Establish the value of the QRI and include any uplift for downsizing provisions.
- Calculate any available RNRB (the relevant residential enhancement at the date of death, including any transferable RNRB at the date of death from any predeceased spouse).
- Establish the value of the deceased’s total chargeable estate and consider any taper withdrawal.
- Calculate the RNRB and apply this to the deceased’s chargeable estate.
There are key planning issues to address both when advising new clients and when considering the application of the RNRB to existing clients (with planning already in place). It is disappointing that rather than simply increasing the NRB to £1m, as between married couples/civil partners, the government has created a complicated regime that will undoubtedly cause confusion amongst personal representatives, increasing the costs and time involved in the administration of estates.
Consideration should be given to what the RNRB means for clients’ ‘will trust’ planning. Only trusts that provide for an immediate interest will attract RNRB. This will be relevant for clients whose wills include old style NRB discretionary trusts and full discretionary trusts. These trusts will not attract RNRB and in some cases may result in a QRI being locked away following the first death which would be more efficiently transferred to a surviving spouse outright or instead vesting absolutely (closely inherited) to a lineal descendant following the second death.
There have been problems interpreting gifts of the NRB since the introduction of the transferable NRB (see Woodland Trust v Loring  EWCA Civ 1314), which will continue.
Considerations should be given to the disadvantages of aggregating a husband and wife’s estate where this would push the total value of the estate on second death over the taper threshold.
Discussions should be had with clients as to whether the protection or planning benefits of using a contingent trust outweigh the potential loss of the RNRB and whether they might prefer to use a flexible immediate post-death interest with a power to advance capital which includes lineal descendants as beneficiaries, or to leave gifts absolutely with no age contingency.
Advisers should consider making clients aware that they may need to review their estate planning.
As with the transferable NRB, it will be important to retain relevant documentation for later use when claiming the RNRB; for example, records of the house valuation on the first death and evidence of downsizing. Personal representatives will need to be aware of the need to elect which property to apply the RNRB against and the criteria and records needed to use the transferable RNRB, as well as the relevant timeframes.
The RNRB will have no relevance to some estates due to their size (taper withdrawal will wipe out the availability of the RNRB for estates worth over £2.35m), although the size and complexity of an estate can change greatly over time, reinforcing the need for regular estate planning review. Elements of the RNRB appear disproportionately unfair, particularly to unmarried persons and those with no lineal descendants.
Where it is possible, consider whether to move charges away from property to ensure that the maximum RNRB is available.
Where a will incorporates a discretionary trust for the benefit of a lineal descendant, personal representatives should consider using s 144 to appoint the QRI to beneficiaries to get the benefit of the RNRB.
Consideration should be given as to whether to use the reservation of benefit ‘loophole’, so that the IHT is not reduced but the RNRB remains available.
Clients should be aware that deathbed gifts could be used to reduce the estate below the taper withdrawal threshold. These gifts may remain within the estate as failed potentially exempt transfers, but they will succeed in reducing the estate for taper withdrawal purposes.
The importance of the RNRB should not be ignored. Whilst it may not currently be relevant to all clients, increasing numbers of estates may fall within the legislation, as they change in size over time. The key for advisers is to be familiar with the application of the new regime and where it may have particular impact on their client’s estate planning.
HMRC has produced detailed guidance (see www.bit.ly/2qUSKeM), which includes a number of case studies.