Many will have read about a new Inheritance Tax (IHT) allowance that was announced in the Chancellor’s Summer Budget. This is the Family Home Allowance (“FHA”), designed to allow more people to pass on their family home to their descendants without paying IHT. Though the main impetus seems to have been to lessen the disproportionate IHT strain on the south east of England caused by rises in house prices, it will also take a large number of families in Scotland outside of the reach of IHT.
The new allowance will come into effect from April 2016 and rules, procedures and guidance will emerge nearer the time. However, the headline provisions are already with us, and it is important for practitioners and tax payers alike to prepare for the new rules. There have been misconceptions about what the new FHA is. So here are six things that you should know:
1. It is NOT a change to the default IHT allowance for individuals
This allowance, known as the “nil rate band”, has been fixed at £325,000 since 2009/10, and will remain frozen at that level until at least 2019. It remains the case that married couples and civil partners can ‘double up’ this allowance to give a total of up to £650,000 to be used on the second death.
2. It is NOT an exemption from IHT for houses worth up to £1M, however…
The figure of £1M is significant here, but not for that reason. Rather, providing certain conditions are met, it will give estates a further allowance to set against the value of the deceased’s family home. The new allowance will be worth £100,000 in 2016/17, growing each year until reaching £175,000 in 2020/21. Allowance that is not used when one spouse or civil partner dies can be carried forward to the second partner’s estate when they die. Accordingly, once the full £175,000 is in place, spouses or civil partners will potentially receive an aggregate £1M in IHT allowance to set against their combined estate (i.e. £325,000 + £325,000 + £175,000 + £175,000 = £1M). The level of available FHA will be tapered off for estates worth more than £2m.
3. It cannot be used against assets other than the family home
If the family home is worth less than the available FHA, then the ‘excess’ allowance will be lost and cannot be used against other assets such as cash or investments. That means, for a married couple with an estate of up to £1M, it will still be possible to pay IHT: it all depends on the makeup of the estate.
4. It will only be available where passing the family home to “direct descendants”
This will include children and grandchildren etc., and also adopted children, stepchildren and foster children. Property passing to e.g. nieces, nephews or other relatives would not receive benefit from the FHA.
5. It will only be available where the deceased owned a share in the family home
Accordingly, while unused FHA will be transferred between spouses / civil partners, it will generally be necessary for the first spouse to have held an interest in the property in order to qualify. If the first spouse had no share in the property, then he or she would not qualify for FHA, and so the second spouse will only receive one lot of FHA (e.g. between £100,000 and £175,000). Some will see this as incentive to transfer houses into joint names.
6. The rules do allow for downsizing
Even if you had sold your family home before your death, whether to go into a smaller property or into sheltered housing or nursing care, the FHA will still be available to give relief against the full value of the main family home as long as assets of an equivalent value are passed to “direct descendants”. This may prove an interesting rule for HMRC to try and administer, but the policy reason is clear enough: the Government do not want older people holding on to large houses for fear of losing tax benefit during times of housing shortages.
IHT has long been an area where there is a lot of scope for productive planning to be done. The new allowance will give comfort to a great number of families, but it is not a cure-all. Some will not benefit from the FHA at all, and so will need to take other measures to reduce their exposure to IHT, while others will need to take careful steps to ensure that they maximise the benefit from FHA. The most effective IHT planning tends to be a combination of different approaches – so the existing principles should not be forgotten about.
The Trusts, Tax and Care team at Blackadders are experienced in these matters and are ready to assist with anything from small queries to more bespoke planning packages.
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