In line with their election promise, the Government has introduced legislation providing for an additional “residence” inheritance tax-free or nil rate allowance. The allowance will be in addition to the current tax-free or nil rate band, which is available to all UK-domiciled individuals, of £325,000 and will be available where an interest in a property, which has been occupied by the deceased as their residence, is inherited by direct descendants.
How much is it?
The additional nil rate band will be available to claim against estates where the deceased died on or after 6 April 2017 and will initially be £100,000, rising to £175,000 from 6 April 2020. Thereafter, the additional nil rate band will increase in line with the consumer price index. For estates worth more than £2m, the additional nil rate band will be reduced by £1 for every £2 of value over £2m, thereby reducing to nil for estates valued at £2,200,000 from 6 April 2017 to 5 April 2018.
For married couples and civil partners, any additional nil rate band which is unused on the first death may be transferred to the surviving spouse and used on the second death in the same way as the existing nil rate band.
Who can claim it?
The additional nil rate band will be available where an interest in a home, which has at any time been the deceased’s residence and which forms part of the deceased’s estate, is passed by will, by survivorship, under the intestacy rules or by operation of a trust to a direct descendant. If the deceased had more than one potentially qualifying property interest then the relief applies to one interest in property only, as nominated by the deceased’s personal representatives and cannot be spread across more than one potentially qualifying property.
A direct descendant is widely defined to include:
• the deceased’s child, grandchild or other direct lineal descendant;
• any step-child of the deceased;
• an adopted child or foster child of the deceased; or
• a child for whom the deceased was a guardian.
In general the direct descendant must be entitled to receive the interest in the residence outright but the legislation does permit certain transfers into a trust on death as follows:
• a transfer into a bare trust or a trust in which the direct descendant has an interest in possession in the residence;
• a transfer into a disabled persons trust under the direct descendant has an interest in possession; and
• a transfer into an 18-25 trust or bereaved minor’s trust for the benefit of the direct descendant.
A common approach to Wills is for the assets to be transferred on death into a discretionary trust for the benefit of children, grandchildren and remoter issue. The testator will leave a letter of wishes setting out their intentions as to how the assets should be distributed. An advantage of this approach is that it gives the testator flexibility during his lifetime to change his wishes to take into account changing family circumstances without having to change his Will. It can also give the trustees flexibility to take account of the particular circumstances of each beneficiary when considering whether to make distributions.
As currently drafted, the additional nil rate band could not be claimed where assets are transferred on death into a discretionary trust for children and grandchildren of the type described above, even where all the potential beneficiaries of the trust fall within the definition of “direct descendants” of the deceased.
So that people are not discouraged from downsizing in their later years, the additional nil rate band will be available where a person downsizes from a higher value residence to a lower value residence or ceases to own a residence altogether, and leaves assets of an equivalent value to the proceeds of sale of their former residence to direct descendants.
What do I need to do now?
The new legislation is complex and we are waiting for the Government to clarify a number of uncertainties and provide guidance on how they expect the additional nil rate band to work in practice.
It is possible to vary a Will following someone’s death by a deed of variation and to make appointments out of a trust created in a Will, both of which allow for gifts to be made within 2 years of death that are treated for inheritance tax purposes as if they were made by the deceased in his or her Will. The Government recently consulted on this type of post-death planning and confirmed that they have no plans to make changes to it in the foreseeable future. As things currently stand, it will therefore still be possible to vary the Will of a person who dies after 6 April 2017 or make appointments out of trusts created by such a Will to take advantage of the additional nil rate band if it is not otherwise available at that time.
For these reasons, our advice for the time being is not to change your Will if you think the additional nil rate band may be relevant to you.
We strongly recommend that you take further advice from us in early 2017, by which time we hope that the current issues with the legislation will have been addressed and we will have greater certainty on how the rules will be applied in practice.
You may wish to consider making gifts during your lifetime and we would be very happy to discuss this with you. If your estate is worth around £2m, any such gifts could bring your estate below the £2m threshold which would mean that the full additional nil rate band would be available on your death.
If you would like to discuss any of the above, please contact your usual Raworths adviser or a member of the Trusts, Wills and Estates team.
The introduction of the additional residence nil rate band went ahead in April 2017 and it is now in force. Since the article above was written, HM Revenue and Customs have published guidance on how they expect the additional residence nil rate band to work and have responded to a number of queries.
Given the potential saving of £140,000 of inheritance tax for a couple, we strongly advise you to seek advice from us if you own a residential property and any of the following apply to you:
As mentioned in the article, it is possible to vary a Will following someone’s death to include a gift of property or to make distributions from a trust created in a Will. If such variation or appointment is made within 2 years of death then it is treated for inheritance tax purposes as if it were made by the deceased in his or her Will and these options may be available to take advantage of the additional residence nil rate band if it does not otherwise seem to be available.
These variation and appointment options are not available where the property is already held in a will trust for a surviving spouse, for example, where a surviving spouse has a life interest in a property following the death of the first spouse, but there may be other steps that can be taken to ensure maximum relief.
Finally, HM Revenue and Customs’ guidance has confirmed the importance of keeping accurate and detailed records when downsizing to a smaller property or moving to a care home, or following the death of the first spouse (particularly where the estate passes in its entirety to the surviving spouse). Without these records, individuals are potentially restricting the valuable inheritance tax reliefs that may otherwise be available to their families on the second death.
If you would like to discuss any of the issues raised in this article then please do not hesitate to contact one of the Trusts, Wills and Estates team.