Inheritance Tax Case Study

Written by Jo, 25 March 2022

Let’s have a look at how financial planning can help to reduce an inheritance tax liability when you die.

Circumstances

Jane Smith came to us after her husband, Gerald, sadly passed away unexpectedly. Jane has inherited all of her late husband’s assets, including his beloved classic car. Jane never really liked it herself, noisy, smelly and unbearably uncomfortable! But it was Gerald’s pride and joy.

Because Jane and Gerald were married, Jane pays no Inheritance Tax (IHT) on the assets she inherits from Gerald. However, there could be a hefty bill on Jane’s estate when she dies, something Jane is keen to avoid for her children; Jack (23) and Olivia (21).

Following Gerald’s death, Jane’s estate now adds up as follows:

House (no mortgage)

£975,000

Classic Car

£50,000

Furniture & Antiques

£75,000

Investments*

£225,000

Cash in the bank

£40,000 emergency fund

Total

£1,365,000

*The value of Jane’s investments excludes the value of her pension, and the pension she inherited from Gerald. This is because pensions are generally exempt from IHT.

Inheritance Tax Allowances

As well as physical assets, Jane also inherits Gerald’s IHT exemption of £500,000 (£325,000 standard Nil Rate Band and £175,000 Residence Nil Rate Band).

When combined with her own IHT exemptions, this gives Jane a total IHT allowance of £1 million before her estate would have to pay tax when she dies.

But Jane’s estate is worth £1,365,000. Assuming the value of her assets remain the same and don’t increase, the estate would normally have an IHT bill of £146,000 (i.e. £1,365,000 less £1,000,000 = £365,000 x 40% = £146,000 tax.)

Financial Planning used to Mitigate IHT liability

Fortunately for Jane, Gerald had planned ahead:

  • Being financially savvy, Gerald had invested in shares that qualify for Business Relief. This means that the value of those assets are free from IHT on death, providing they have been held for at least 2 years, which in Gerald’s case they had. Gerald also invested Jane’s portfolio in the same way. Providing she retains these shares, the value of her investments will also be free from IHT when she dies.
  • He might not have known it at the time, but HMRC has since confirmed that Gerald’s classic car – due to it being of pre-eminent national scientific interest - qualifies as ‘heritage property’. This renders it exempt from IHT, assuming Jane keeps hold of it until she dies.

These factors reduce Jane’s taxable estate by £275,000. The remaining taxable element is now £90,000 leaving the estate with a much more manageable IHT bill of £36,000. (i.e. £365,000 - £375,000 = £90,000 x 40% = £36,000)

What Else Can be Done?

Jane could further mitigate IHT on her estate by downsizing her home and investing the surplus change into IHT friendly investments. If she didn’t want to move home, she might be able to insure her liability with a Whole of Life insurance policy, held in trust for Jack & Olivia. This sort of insurance policy pays out a lump sum on death to cover the IHT bill. Another option could be to sell Gerald’s car and gift the proceeds to Jack and Olivia. Assuming Jane lives for a further seven years, these gifts would fall outside of her estate for IHT.

Get in touch for more information on how to mitigate your own IHT liability

Important Information

The information in this case study is for educational purposes and is not a personal recommendation or investment advice. Content is accurate at the time of writing and tax limits may change. If you are unsure about the suitability of a particular investment you should speak to an authorised financial adviser. The value of investments can go down as well as up. Wise Investment is authorised and regulated by the Financial Conduct Authority (FCA 230553).

Registered Office: The Great Barn, Chalford Park Barns, Oxford Road, Chipping Norton, Oxfordshire, OX7 5QR. Registered in England 4970458

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