Control, flexibility and paying less tax often become financial priorities when you start thinking about inheritance tax and how much your family are going to be liable for. Is it possible to achieve all three or is that just wishful thinking?
What is your inheritance tax free allowance?
Everybody has something called a nil rate band for inheritance tax purposes. This is the amount up to which your estate has no inheritance tax to pay. For 2016/17, the nil rate band is £325,000.
If the value of your estate exceeds your nil rate band when you die, your family are likely to have to pay inheritance tax on the excess amount. The current rate of inheritance tax is normally 40%.
The value of your estate means the value of your worldwide assets. Virtually everything you own, anywhere in the world, is considered part of your estate. This may include any property, ownership of a business and/or any share of a business.
So, you have your nil rate band allowance of £325,000; your spouse also has their nil rate band allowance of £325,000. If your spouse dies before you, you can inherit their nil rate band allowance which means your inheritance tax free allowance becomes £650,000.
If your main residence is passed on to a direct descendant when you die, from April 2017 your joint nil rate band could rise to as much as £1 million with the addition of the main residence nil rate band (RNRB) – this increase will be staged over several years up to 2020/21. There are of course a host of rules and regulations surrounding the RNRB but that’s for another time!
Even so, the fact remains that many estates increase year-on-year at a rate faster than the inheritance tax thresholds. The tax your family has to pay on anything more than your nil rate band is certainly hefty but there are ways you can reduce it – both traditional and not-so-traditional ways.
Reducing your inheritance tax bill: Some options
Many of the more traditional estate planning solutions centre around either giving away your money or putting it somewhere you don’t have access to.
For example, if you give away your assets to family and friends during your lifetime, you must live for at least another 7 years before they become exempt from inheritance tax. Similarly, putting assets into a trust can also take 7 years before their value falls outside of your taxable estate.
Giving away your hard-earned money and investments during your lifetime isn’t always a very attractive option – for one, it’s money you may need or want yourself. What other inheritance tax efficient routes are there?
Business Property Relief: An alternative option
A less conventional way to reduce your inheritance tax bill is through Business Property Relief (BPR). Many have never heard of BPR and yet it:
- Gives you control of your money and
- Moves it out of your estate for inheritance tax purposes in only 2 years (not 7 years)
What exactly is Business Property Relief?
Business Property Relief (BPR) is an established form of tax relief that incentivises you to invest your money in trading businesses. Shares in a BPR qualifying business can be left to your beneficiaries inheritance tax free, provided they have been owned for at least 2 years at the time of your death¹.
Now I’m not suggesting that you race out and invest in a local business. However, there are investment vehicles that utilise BPR and this can be a viable inheritance planning route to examine with your financial adviser.
Here’s a brief, simplified example
Dr Jones knows he will use up his inheritance tax allowance of £325,000 plus his additional family home allowance. He has an existing invested portfolio of £200,000 and accepts the fact that his estate will get an £80,000 inheritance tax bill on his investment portfolio when he dies.
Dr Saway will also use up his nil rate band and his additional main residence allowance. But, unlike Dr Jones, Dr Saway has looked at the pros and cons of Business Property Relief and decided to move his investment portfolio to a BPR qualifying investment. Because he lives the required 2 years, his investment portfolio will not be subject to inheritance tax when he dies.
Should you be considering Business Property Relief?
Business Property Relief has a wide appeal, including for those who:
- Want to keep control of their money and perhaps have existing investments
- Are acting as Power of Attorney for someone who has investments
- Are thinking of setting up a discretionary trust more than the nil rate band
- Are selling a business or who have sold a business in the last 3 years
- Are worried about being elderly or in poor health but don’t want to give up capital for the future.
For any one of the above reasons, investing in BPR qualifying businesses could well be a route you haven’t thought of or heard of before and yet the savings can be great.
As you would expect, there are costs and charges associated with BPR schemes and indeed, the schemes themselves are designed for experienced investors who can accept a significant degree of risk. They don’t suit everyone’s appetite for risk and it is important that you explore the detail before you take any action.
That said, if you’re a successful doctor or dentist whose estate could be subject to inheritance tax, you owe it to yourself and your family to fully explore all your inheritance tax planning options. That’s my view anyway!