On 6 April 2017, a new relief from inheritance tax was introduced. This is known as the “Residence Nil Rate Band” (“RNRB”). This currently provides an additional nil rate band of £100,000.
Under the previous rules prior to 6 April this year, on death the first £325,000 of an individual’s net estate was taxed at 0%. This is known as the “nil rate band” (“NRB”).
Unless any other tax reliefs apply, the rest of the net estate (i.e. assets less allowable liabilities) is then taxed at 40%.
For couples who are married or, in a civil partnership, if the first to die has not used their NRB, the allowance may be transferred to a surviving spouse. This effectively provides the surviving spouse with a tax allowance of up to £650,000. This typically occurs when the first to die leaves everything to the surviving spouse or civil partner as gifts between spouses and civil partners are entirely tax-free. N.B. However, cohabitating couples do not have the benefit of the IHT spousal exemption.
This provides an additional allowance currently of a further £100,000 per person which exempts the first £100,000 of a home’s value from inheritance tax, on the basis it passes to a direct descendant. A direct descendant includes children, grandchildren (including step-children, adopted children and fostered children). The additional tax amount which starts at £100,000 on 6 April 2017 increases by £25,000 per annum until 2020/21 when it reaches £175,000. The NRB can then be applied to the balance of the value of the property and/or other assets in the estate.
What if I wish to downsize my property?
While normally in order to benefit from the RNRB, an individual must leave a residential property to their descendants, the new rules also allow individuals to claim the RNRB if they have previously owned a residential property, but no longer own it at the time of their death. This allows people who have downsized or moved into a care home to benefit from the additional allowance up to the value of the residential property that they previously lived in. These rules are complex and legal or, accountancy advice should be taken.
How does this work in practice?
Ms Smith dies on 10 April 2017. She is a single woman but has a daughter from a previous relationship. Her estate comprises her property worth £300,000 and cash and investments worth £100,000. Her executors can claim the RNRB against the first £100,000 of her home which brings down the value of the remainder of her estate to £300,000. No inheritance tax is due.
How would this work for a married couple?
Mrs Jones dies on 10 April 2017 leaving her estate to her daughter. Her husband had died in 2016 leaving his estate to his wife, which meant that no inheritance tax was due on his death. However, inevitably this means that the survivor’s estate is worth more and so on the death of Mrs Jones, her estate comprises her home worth £700,000 and investments worth £250,000. The executors will be able to deduct both Mrs Jones’ RNRB £100,000 and NRB £325,000, as well as Mr Jones’s unused RNRB and NRB also £425,000. This means that 40% inheritance tax is only payable on £100,000 of the estate.
Are there any exclusions?
- Please note that the exemption for spouses and civil partners only applies specifically to those couples. Therefore, heterosexual, or same sex couples in a long-term relationship will not benefit from the tax-free gift to spouse or civil partner.
- The property must have been the residence of the deceased at some point and so this cannot be applied to buy-to-let properties.
- If an individual has more than one home, only one property can attract the RNRB.
- For estates that exceed £2 million (even if the actual property is worth less than this), the RNRB will be reduced by £1 for every £2 that the estate is valued over £2 million.
- Note that properties which have been left into a trust may not qualify for the relief and therefore we recommend that people review their existing arrangements.
These rules are somewhat arbitrary and complex. Many commentators wish that the chancellor had simply increased the NRB to £1m. Many people will lose out e.g. cohabiting couples, or siblings who co-own properties.