Director Frances Davies explains the increase in the nil rate band for main residences.
Given the size and scope of the first fully Conservative budget since 1996, it is quite easy to overlook some of the important changes to the rules of one of the most fundamental taxes in the UK. Inheritance Tax (IHT) is a tax that can affect everyone; it’s the tax payable on a person’s estate when they die and their estate is inherited by their beneficiaries.
A crucial aspect of IHT is the nil-rate band allowance, which is the part of an estate that is not subject to IHT in the UK. Currently, the nil-rate band is frozen at £325,000, and has been since 2010-11. This means that IHT will only be payable on a person’s estate if it is worth more than the ‘Inheritance Tax threshold’. At present, the rate of IHT is 40% on any estate value which exceeds the threshold; however, if 10% or more of the chargeable estate is left to a charity, the rate may be reduced to 36%.
The Chancellor, George Osborne, announced on 8 July that the nil-rate band will remain frozen at £325,000 until at least 2020-21. This is significant as, in the last nine years, the nil-rate band has increased by £40,000, from £285,000 in 2006-7, and now there will be no further increase for at least five or six years.
Whilst the proposal to freeze the main nil-rate band at £325,000 may be a disappointment to some, the Summer Budget also contained promising proposals to introduce an additional tax-free ‘main residence’ nil-rate band for family homes in the UK. This will provide for a £175,000 tax-free allowance per person on residential properties passed on to children or grandchildren. Estimates suggest that almost 1 million properties in the UK will benefit from this change, with the total number of homes exempt from IHT expected to rise from 26.33 million to 27.28 million.
However, the main residence nil-rate band will not be introduced in its entirety until April 2020; it will instead be phased in gradually over a period of three years from 6 April 2017. The new tax-free allowance on family properties will start at a value of £100,000 from 6 April 2017, increasing each year by £25,000 until it reaches a value of £175,000 in 2020. After this point, the value is expected to increase in accordance with inflation.
Nonetheless, there are some restrictions on the circumstances in which the tax relief can be applied. It is only applicable on ‘main residence’ properties which are to be passed on to direct lineal descendants, meaning children and grandchildren, irrespective of whether these are a person’s natural children, stepchildren, adopted children or fostered children. For a property to qualify for the tax relief it must be residential, therefore commercial properties and any other property such as buy-to-let property which was not the main residence of the deceased will not be relevant. Furthermore, only one residential property can qualify for the relief, but personal representatives will be able to choose which property they wish to qualify in the event that there is more than one in the estate.
Additionally, it will be more difficult to obtain the relief for people who leave behind an estate worth more than £2 million upon death. Yet the proposals also contain a clause that allows anyone who wants to downsize to a smaller property after 8 July 2015 to be eligible for the main residence nil-rate band provided that assets of equivalent value will be passed on to direct descendants upon death.
Much like the current nil-rate band, the main residence nil-rate band will be transferable between spouses in the event that one spouse dies on or after 6 April 2017. This is hugely significant for couples who own an expensive residential property, and plan to pass it on to their children or grandchildren. When combined the current nil-rate band (£325,000) and the main-residence nil-rate band (£175,000) will provide for an overall IHT threshold of £500,000 per spouse. This means that, with the transferability of nil-band rates, home-owning married couples and civil partners will potentially be able to increase their combined IHT threshold to £1 million by 2020.
The precise details of the legislation to increase nil-rate bands for main residence properties are not yet available, but the Government is expected to consult on these towards the end of the Summer, at which point we will be able to provide further information for clients.
Even so, if you have any further questions on nil-rate bands at this time, or require further advice regarding how to minimise the Inheritance Tax or any other taxes payable on your estate, do not hesitate to contact our team of professionals at Progeny Private Law.