Inheritance Tax 7 Year rule
Inheritance Tax (IHT) applies to a decease’s estate where there is a chargeable transfer on death. Fortunately, IHT has never been more generous and can allow up to £1m to be passed on tax-free.
£325k Nil rate band When calculating an IHT liability, the nil rate band is the first tax break. This can be less if there is a chargeable lifetime transfer, but we will presume this isn't the case for this example. If you are married, or you are Widowed, this doubles to £650k that you can pass on and this figure is fixed, no matter how many people are receiving the estate.
If a person dies within seven years of making a gift potentially subject to IHT, then the 325k Bil Rate Band is decreased on a sliding scale.
Children and Inheritance
If you give away your home to your children (including adopted, foster or stepchildren) or grandchildren your threshold can increase to £500,000.
This means the threshold can be as much as £1 million.
The 7-year rule
If there would have been Inheritance Tax to pay on an item but it was given away in the 3 years before death, it is included in the IHT calculation just as it would have been if it was given away at the time of death. This means it is fully charged at 40% IHT.
Gifts made 3 to 7 years before your death are taxed on a sliding scale known as ‘taper relief’.
Years between gift and death Tax paid
less than 3 40% (fully taxable)
3 to 4 32%
4 to 5 24%
5 to 6 16%
6 to 7 8%
7 or more 0% (not included in IHT calculation)
The Nil Rate Band of the deceased will first be offset against these lifetime gifts before the balance is set against the estate on death. This can, therefore, reduce the amount available for transfer to a surviving spouse.
A first glance, the transferable NRB looks simple enough. It’s based on the percentage of the unused NRB and will be limited to 100%. HMRC guidance can be found in the link at the bottom.
A person could accumulate more than one transferrable NRB from several marriages or civil partnerships. But no individual is entitled to more than a maximum of two full NRBs (650k/£1m). Complications can arise when the widow was married, once or multiple times, with spouses who have used some NRB and also passed away.
HMRC information on the subject can be found here.
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