Importance of avoiding paying inheritance tax twice when no spouse or civil partnership exemption is available

Importance of avoiding paying inheritance tax twice when no spouse or civil partnership exemption is available

We frequently deal with estates where one partner left everything to the other partner and because they were not married or civil partners, there is no spouse exemption available, so inheritance tax is fully chargeable.

Inheritance tax on the first death will be chargeable in the usual way, which will mean that a nil-rate band exemption of £325,000 would be available if an estate is left entirely to a surviving partner. Whereas if there are children, then consideration needs to be given as to whether the Residence Nil Rate Band worth £175,000 can be utilised on the gift of an interest in real property to a child. The balance of an estate over and above the nil-rate band that is left absolutely to a partner would be subject to IHT at 40%. If the estate is say £500,000, that would mean IHT of £70,000, some or all of which may possibly be payable using the instalment basis so that it is spread over 10 years if the estate includes real property. Whilst payment of the Inheritance Tax may be bad enough news for the bereaved surviving partner, in some respects it is even worse news when considering their own IHT planning, because the assets inherited may only compound their own inheritance tax problem.

The situation can be magnified when the surviving partner is very elderly or in poor health. Sadly we have dealt with a situation fairly recently where the surviving partner became terminally ill shortly after the death of the first partner. In this scenario we were concerned that Quick Succession Relief (which reduces the IHT payable on inherited assets if the first death occurred within 5 years) is only available at 100% if the second death occurs within 12 months, and thereafter it is tapered substantially, and it is never clear how long the survivor will last for. We therefore advised the client to vary the inheritance received into a discretionary trust that had been specifically customised to receive property by a deed of variation and to allow the survivor to benefit. We were careful to take instructions on the will of the terminally ill surviving partner and we also advised on a letter of wishes to guide the trustees of the discretionary trust following his death. Sadly, the client died a couple of years later yet the planning saved a £six figure inheritance tax bill and the flexible nature of the discretionary trust was ideal for his daughter as it was able to provide a protective environment for her own inheritance and allow for income tax planning in paying for her son’s maintenance costs.

We also advise clients who are unmarried how they should structure their wills when no spouse or civil partnership exemption is available. Quite often we seek to utilise “relevant property trusts” such as discretionary trusts to avoid the inherited estate to be taxed as belonging to the estate of the surviving partner. Furthermore, we sometimes work with the IFA of the client to ensure that any trust holding a life assurance policy is correctly calibrated so that it is available to pay inheritance tax and or any mortgage in a way that safeguards the interests of the partner who died first. Sadly, we see too many poorly thought out life assurance policy arrangements where the surviving partner is appointed sole trustee and is able to determine unilaterally how they use a life assurance policy proceeds which they may decide to use for their own benefit rather than to pay a mortgage or an inheritance tax bill. We always insist upon sensible arrangements and advise clients of the full implications of any trust arrangements, where commonly one of the most important decisions is on the choice of initial trustees. After all there is a reason why life assurance policy documents provided by financial advisors recommend that independent legal advice is taken.

For further discussion regarding the above please arrange a consultation with Graham Harvey on 020 3745 5549 or by email graham@harveyassociates.co.uk or admin@harveyassociates.co.uk

Disclaimer: nothing in the above article constitutes legal advice and must not be relied upon. We can only be responsible for providing specific legal advice under an agreed scope of work when engaged by clients.