The recent BBC News Story of Robina Hunter, a 100 year old woman from Newton Stewart in Dumfries and Galloway, who left half of her £1.7m estate to 18 charities, is bound to have caught the eye of those who enjoy a story about a good deed.

However, this also ties into new legislation that will be introduced in the Finance Bill 2012.  The new measures will provide for a reduction in the rate of Inheritance Tax (“IHT”) from 40% to 36% where 10% or more of a deceased person's net estate (after deducting IHT exemptions, reliefs and the nil-rate band) is left to charity.  This measure will apply to deaths on or after 6 April 2012.

Personally I would very much like to see the lofty heights of 100 years old, and would also very much like to have that much money by the time I got there, but for many individuals the ability to reduce their IHT liability while gifting sums to charities is a winning combination.

Current law

Currently on death, IHT is charged on estates where the net value is more than the IHT threshold or 'nil-rate band' (currently £325,000 but the amount available for use by an estate can be different in some circumstances).  A person's estate for IHT purposes includes not only the assets that they directly owned immediately before they passed away and which they are able to dispose of under the terms of their Will (their 'free estate') but also certain other assets and property. These include jointly owned assets, interests in certain types of trust (settled property), and some other assets which the individual gave away during their lifetime whilst continuing to derive a benefit (gifts with reservation of benefit).

All these different categories of asset combine to form an aggregate estate that is subject to IHT.  This aggregate estate is reduced by a number of reliefs and exemptions.  For example, assets passing to a spouse or civil partner are exempt, and certain business assets may qualify for business property relief.  Gifts made to qualifying charities are exempt from IHT.  After deducting the various reliefs and exemptions most estates are below the available nil-rate band and so are not liable to IHT.  IHT is charged at a single rate of 40% on the net chargeable value of an estate (after reliefs and exemptions have been deducted) over the available nil-rate band.

Proposed revisions

Proposed legislation in the form of the Finance Bill 2012 means that for deaths on or after 6 April 2012, IHT will be charged on the net chargeable value of an estate at a rate of 36% where 10% or more of that estate has been left to charity.  The proposal is to split an individual’s estate into three components:

  1. Property that passes by survivorship, settled property and the rest.
  2. The value of each component after applicable reliefs (other than legacies to charity).
  3. A pro rata share of any IHT nil rate band, is compared to charitable legacies left out of the property in each component.   

If the legacies are at least 10% of the value of the component they come out of, then the lower IHT rate applies to that component.  If the legacies are more than 10% of the value of the component, an election can be made to merge that component with one or both of the others so as to extend the 36% rate to more of the estate if charitable legacies are 10% of the combined components.  While the lower rate will be the default position where the conditions are met, it will be possible to opt out, and pay the full 40% inheritance tax rate.

This measure could have saved Robina Hunter a significant sum in terms of IHT and the measures have been welcomed by many in the Charities Sector.  John Low, chief executive of the Charities Aid Foundation, said: "The chancellor has delivered for charities and those who want to support them.  The commitment to bring gift aid into the 21st century will revolutionise this important tax relief and go a long way towards reducing the £750m that goes unclaimed each year."