Are You Making These 8 Mistakes with Inheritance Tax?

As inheritance tax revenue rises to an all-time high of £7.1 billion annually, many families find themselves caught in a labyrinth of rules. If you’re not careful, you could accidentally leave your loved ones with hefty tax bills. The Daily Mail explore some major pitfalls you need to avoid and the strategies you can use to keep more of your wealth in the family.

1. Gifting Your Home But Continuing To Live There – Risking £115,000

Understanding the Basics
Many parents want to gift their family home to their children to help avoid massive inheritance tax bills later on. As the rules stand, a couple can hand over a property worth up to £1 million to their direct descendants without paying tax. For a single person, this limit drops to half.

The Pitfall
But here’s where things get tricky. Say you give your home to your child but continue living there without paying rent. This is seen as a ‘gift with reservation of benefit’ and could mean the home still counts towards your estate value when you pass away. In essence, the government doesn’t view it as a genuine gift if you’re still using it without any strings attached.

Possible Consequence
If you’re found to have made such a gift, and, for instance, you also own another home worth the UK’s average of £288,000, this could slap your family with an unexpected tax bill of around £115,000.

Expert Advice
If you do wish to continue living in a gifted property, consider paying rent at market rates to your child. However, they would need to declare this rent as income and pay any relevant taxes.

2. Selling and Buying a New Home Together – Potentially £27,000 Out of Pocket

The Strategy Gone Wrong
Parents might think they’re clever by selling their home, gifting the money to their children, and then using the funds to buy a bigger shared property.

The Pitfall
Letting parents live rent-free in the new property risks landing the family with a shock tax bill either through ‘reservation of benefit’ rules or ‘pre-owned asset’ laws.

What This Could Cost You
Assuming an average UK rent of £1,126 a month, this could amount to a tax charge of about £27,024 over ten years.

3. Making Improper Gifts – A Potential £3,500 Loss

The Importance of Formality
When you gift something valuable, like artwork, do it properly. Physically hand it over, and make sure insurance details are changed to reflect the new ownership.

Why This Matters
Revenue & Customs will look into gifts made seven years before one’s passing. If they discover an improperly documented gift, penalties and interest can add up quickly. For a painting worth £5,000, the total might rise to £3,505 in unpaid taxes and fees.

4. Ignoring Life Insurance Trusts – A Missed £45,000 Saving

The Advantage of Trusts
Life insurance policies, when put into a trust, don’t count towards the estate value for inheritance tax purposes.

Why Many Miss Out
Despite the clear benefit, thousands neglect to use trusts, potentially costing their beneficiaries up to £332 million in unnecessary tax payments.

Expert Tip
Sean McCann from NFU Mutual advises putting life insurance policies into trust; many providers offer the forms free of charge.

5. Mishandling Pension Withdrawals – At Risk of £10,000

The Power of Pensions
Pensions can be incredibly tax-efficient for inheritance. If the holder dies before 75, the pension can be passed on tax-free.

The Common Mistake
Many take a 25% tax-free lump sum from their pensions, even if they don’t need the money, and then just stash it in a savings account where it can be subjected to inheritance tax.

6. Overlooking Joint Allowances – Missing £200,000 Benefits

The Couple’s Benefit
Married couples and civil partners can combine their allowances, effectively doubling their tax-free inheritance bracket.

The Lesser-Known Fact
Even if a partner passes away and the surviving individual remarries, they retain their deceased partner’s inheritance tax allowance, enabling them to leave even more to their beneficiaries tax-free.

7. Choosing Not To Marry – A Potential £70,000 Tax Bill

The Marriage Advantage
Only married couples and civil partners enjoy the inheritance tax benefits accorded to couples.

The Consequence of Skipping The Altar
Unmarried partners may end up paying 40% tax on amounts exceeding the tax-free threshold, potentially reaching £70,000 on a £1 million property.

8. Not Claiming Overpaid Inheritance Tax – A Missed £40,000 Refund

Why Refunds Are Relevant
If property or shares from an estate are sold for less than their valued worth within specific timeframes, overpaid inheritance tax can be claimed back.

The Uptick in Claims
Refunds rose by 22% in the 2022-23 tax year due to falling house prices, making it even more important to be vigilant.

Concluding Thoughts
Inheritance tax planning isn’t just for the ultra-wealthy. By being aware of the pitfalls and actively planning, you can ensure your loved ones receive the maximum benefit from your hard-earned assets. Always consult with a financial advisor to tailor these strategies to your unique circumstances.