07718128235
omar@aswatax.co.uk
07718128235
omar@aswatax.co.uk
May 7, 2024

How Trustees Can Manage Inheritance Tax UK to Benefit Beneficiaries

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Inheritance tax (IHT) can significantly reduce the value of an estate passed on to loved ones. 

As a trustee, you have a responsibility to manage the trust assets effectively and ensure the beneficiaries receive the maximum possible inheritance.

It’s a task that requires a deep understanding of tax laws and strategic planning to maximise the benefits for beneficiaries. 

Are you a trustee given charge of assets for a beneficiary or you’re about to become one?

In this blog post, we will explore effective methods trustees can employ to navigate IHT, ensuring that the assets held in trust are transferred efficiently and in compliance with HM Revenue & Customs guidelines. 

Let’s get to it then!

What Is Inheritance Tax and Who Needs to Pay It?

Inheritance tax is a tax levied on the total value of an estate exceeding a specific threshold (called the nil rate band) after death. 

Currently, the nil rate band in the UK is £325,000 per person. Anything above this amount is taxed at a rate of 40%.

Here's a breakdown of some key aspects of IHT for trustees to understand:

  • Assets Subject to IHT: Inheritable assets like property, savings, investments, and even some personal possessions are subject to IHT.
  • Exemptions and Reliefs: There are exemptions available to reduce the IHT liability, such as the spouse exemption (where you can leave everything to your spouse tax-free) and charitable gifts.
  • Deadlines and Penalties: Inheritance tax needs to be paid within six months of the death. Late payments incur penalties.

IHT planning is crucial for trustees to ensure the beneficiaries inherit a larger share of the estate.

Thresholds and Rates: How Much Is Inheritance Tax?

The IHT threshold and rates can vary, but as of this writing, the standard nil rate band in the UK is £325,000, with a 40% tax rate applied to the value of the estate above this threshold.

There are various reliefs and exemptions, such as the residence nil rate band (RNRB), which can increase the threshold if the family home is passed on to direct descendants.

The Role of Trustees in Inheritance Tax Planning

Trustees are responsible for managing the trust's assets in the best interest of the beneficiaries, which includes tax-efficient planning. 

This means that understanding the type of trust, the assets it contains, and the beneficiaries' needs is crucial for effective IHT planning.

As a trustee, you must understand the tax implications of different types of trusts, including discretionary trusts, interest in possession trusts, and bare trusts, each with its unique tax considerations.

Inheritance Tax Planning
Inheritance Tax Planning

Types of Trusts

There are different types of trusts, each with its own advantages and disadvantages for IHT purposes.

Let’s have a look at what they are:

  • Bare Trusts: These are the simplest trusts. Assets are held for the benefit of a named beneficiary who automatically receives them upon reaching a specific age (usually 18). Bare trusts offer minimal IHT benefits.
  • Interest in Possession (IPoP) Trusts: The beneficiary receives the income generated by the trust assets but not the assets themselves. IPoP trusts may offer some IHT benefits depending on the terms of the trust. The income received by the beneficiary is subject to income tax.
  • Discretionary Trusts: These trusts offer the most flexibility for IHT planning. Trustees have the discretion to decide who benefits from the trust assets and when. Discretionary trusts can be highly effective in reducing the IHT burden.

Preparing for Inheritance Tax as Trustees

Essential Documents and Information

Effective IHT planning begins with gathering all necessary documents and information. 

As a trustee, you should have access to the trust deed, asset valuations, and any relevant documentation that outlines the settlor's wishes and the trust's terms. This information forms the foundation of accurate IHT planning and reporting.

Understanding Trust Types and Their Impact on IHT

As we’ve shown earlier trusts are categorised based on their structure and the rights they confer to beneficiaries. 

Bare trusts are straightforward arrangements where the beneficiary has the immediate right to both the capital and income of the trust. 

Interest in possession trusts gives beneficiaries the right to the income generated by the trust's assets. 

Discretionary trusts allow trustees to make decisions about how and when assets are distributed to beneficiaries. 

Each type of trust has different implications for IHT, which you must carefully consider in your planning.

Valuing the Estate for Inheritance Tax Purposes

Valuing the estate accurately is a critical step in IHT planning. 

You must ensure that all assets within the trust are correctly valued at the date of death for IHT purposes. This includes real estate, investments, and any other assets the trust holds.

An accurate valuation is essential for determining whether the estate's value exceeds the IHT threshold and, if so, by how much.

Strategies for Minimising Inheritance Tax

Here are some effective strategies you can utilise to minimise IHT for your beneficiary:

1. Utilising the Nil Rate Band (NRB):

The NRB is a significant allowance that reduces the IHT liability. Here's how trustees can maximise its benefit:

  • Full Utilisation: Ensure the full NRB allowance is used by transferring assets to beneficiaries during the deceased's lifetime or through their Will.
  • Combined Allowances: Married couples or civil partners can combine their NRB allowances, potentially creating a tax-free threshold of £650,000.

2. Gifts:

Strategic gifting can effectively reduce the value of the estate and lower the IHT bill. There are two main types of gifts to consider:

  • Gifts During Lifetime:
    • Exempt Gifts: Small gifts (up to £250 per person per year) are exempt from IHT.
    • Potentially Exempt Transfers (PETs): These are gifts of any amount where the donor survives for seven years after making the gift. If the donor dies within seven years, the PET may be subject to IHT.
  • Gifts After Death:
    • Gifts with Reservation of Benefit (GROBs): These are gifts where the donor retains some benefit from the gifted asset. For example, gifting a house but continuing to live in it. GROBs are usually still considered part of the estate for IHT purposes.

3. Trusts for IHT Planning:

Trusts are a powerful tool for inheritance tax planning. Discretionary trusts, for example, provide flexibility in how assets are distributed, potentially allowing for more tax-efficient outcomes. 

However, the tax implications for different types of trusts vary, and trustees must navigate these carefully.

For instance, assets placed in a discretionary trust may be subject to a 10-year anniversary charge, though at a potentially lower rate than the 40% inheritance tax, depending on the trust's assets and any reliefs or exemptions that apply.

4. Life Insurance:

When written in trust, life insurance policies can be used effectively to plan for inheritance tax liabilities.

The payout from a life insurance policy written in trust does not form part of the deceased's estate for IHT purposes, which can significantly reduce the overall tax liability.

This strategy ensures that funds are available to cover the inheritance tax bill without diminishing the assets passed on to beneficiaries.

Advanced Inheritance Tax Planning for Trustees

Business Property Relief (BPR) and Agricultural Property Relief (APR)

Advanced inheritance tax planning can involve leveraging reliefs such as Business Property Relief (BPR) and Agricultural Property Relief (APR). These reliefs can reduce the value of relevant business and agricultural property when calculating the IHT due. 

BPR, for instance, can offer relief from IHT at rates of 50% or 100% on qualifying business assets. If you’re managing estates that include qualifying businesses or agricultural property you should consider these reliefs as part of your tax planning strategy.

Calculating and Reporting Tax Strategy
Calculating and Reporting Tax Strategy

Leveraging Charitable Donations

Donations to charity from within the estate can also reduce the overall inheritance tax liability.

Charitable donations are exempt from IHT, and if an estate leaves 10% or more of its net value to charity, the rate of IHT on the rest of the estate may be reduced from 40% to 36%. 

This approach can not only benefit worthy causes but also strategically reduce the tax bill.

Investment in IHT-efficient Assets

Certain investments qualify for relief from IHT, which can be an attractive option for trustees looking to manage tax liabilities. Investments in qualifying AIM shares, for example, are potentially exempt from IHT after being held for two years.

These types of investments can be more volatile than others, so trustees must balance the potential tax benefits against the investment risk.

The Process of Paying Inheritance Tax

Calculating and Reporting Inheritance Tax

As a trustee, you are responsible for accurately calculating and reporting the inheritance tax due. This involves completing the relevant IHT forms for HM Revenue and Customs (HMRC) and providing a detailed account of the estate's assets and liabilities.

The calculation must include all relevant deductions, reliefs, and exemptions to ensure the correct amount of tax is paid.

Payment Methods and Deadlines

The inheritance tax must typically be paid within six months of the end of the month in which the person died.

Trustees have several options for paying the tax, including from the estate's funds or through instalment payments for certain types of assets. 

Each strategy offers a pathway to potentially reduce the tax liability, ensuring that beneficiaries can benefit as fully as possible from their inheritance.

As trustees navigate these complexities, the goal remains clear: to manage the estate in a way that honours the settlor's wishes while maximising the value passed on to beneficiaries.

Common Challenges and Solutions

No Regular Review

One common mistake trustees make is failing to regularly review and update the trust's investment strategy and asset valuation.

This oversight can lead to missed opportunities for tax savings or unexpected tax liabilities.

Regular reviews, ideally with the assistance of a tax professional, can help trustees stay on top of changes in tax law, asset values, and the beneficiaries' circumstances.

Dealing with Complex Estates

Trusts with complex assets or international elements pose additional challenges. 

For instance, assets located overseas may be subject to different tax regimes, complicating the IHT planning process.

In such cases, it may be beneficial for trustees to seek specialised advice to navigate the complexities and ensure compliance with all relevant tax laws while optimising the trust's tax position.

Calculating and Reporting Inheritance Tax
Calculating and Reporting Inheritance Tax

Keeping Up with Changes in Inheritance Tax Law

Tax laws, including those governing inheritance tax, are subject to change. These changes can significantly impact the tax planning strategies available to trustees.

For example, adjustments to the nil rate band or alterations to reliefs and exemptions can necessitate reassessing the trust's tax planning approach.

Resources for Trustees

To stay informed about changes in inheritance tax law and effective tax planning strategies, there are some reliable sources of information including;

  • HM Revenue and Customs (HMRC): For official updates on tax laws and regulations.
  • Professional Associations: Organisations such as the Society of Trust and Estate Practitioners (STEP) offer resources and guidance for trustees.
  • Legal and Financial Advisers: Professionals specialising in trust and estate planning can provide personalised advice and updates relevant to the trust's circumstances.

Conclusion

Effective management of inheritance tax is a critical responsibility for trustees, requiring a deep understanding of tax laws, strategic planning, and ongoing vigilance.

By employing strategies such as making use of allowances and reliefs, investing in IHT-efficient assets, and staying informed about legal changes, you can significantly enhance the benefits passed on to your beneficiary.

I trust you’ve found this valuable so far. Do well to share with a fellow trustee.

To your success!

Meet Omar

Omar is a Chartered Tax Advisor (a.k.a an expert on tax issues) and founder of ASWATAX. He regularly shares his knowledge and best advice here in his blog and on other channels such as LinkedIn.
Book a call today to learn more about what Omar and ASWATAX can do for you.

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