Inheritance Tax

Inheritance tax (IHT) is becoming a real problem for more and more homeowners because the boom in property prices has outpaced the rise in the threshold at which inheritance tax (IHT) becomes payable, so many more people are being caught in the IHT trap.

Over the last ten years, the amount of inheritance tax (IHT) being paid by UK taxpayers has trebled from £1.2 billion to £3.6 billion, according to figures released by the Consumers’ Association.

IHT is currently (2007/8) levied on estates worth more than £300,000, including the value of your home, and for anything over that amount, your heirs must pay 40%.

The IHT threshold usually rises in line with Retail Price Index (RPIX) inflation — currently 4.8% — but house prices have been soaring at more than eight times that rate, dragging more people into the IHT net.
At the heart of the problem is the fact that the inheritance tax threshold has increased by just 39 per cent since 1997 (to £300,000) while house prices have soared by over 320 per cent.

Six years ago, the average house in Britain was worth about a quarter of the level at which inheritance tax kicked in, that is, around £80,000.

A typical home is now worth £180,000, according to the Nationwide BS — just over half of the IHT threshold.
In 1997, just one town - Gerrards Cross - had an average house price higher than the threshold, which then stood at £215,000. Now there are 90 towns where the average house price exceeds the current threshold.

The average detached property in the South East is worth £400,717; in the South West of England £318,152 and in Greater London £628,239, according to the Land Registry figures for January-March 2007.

Many families could find themselves with a potential IHT bill simply because of rising house prices, before taking other assets into account.

At the same time, the government has plugged a number of loopholes. For example, married couples can no longer shield wealth from IHT using a so-called life-interest trust and continue to benefit from it. So they cannot give their home to a trust and continue to live there without paying a ‘market rent’.

However, with a bit of forward planning using a suitable Equity Release scheme, a potential IHT bill may be reduced or avoided altogether.

Let‘s say your home is worth £550,000, much less than the average price for Greater London but still some £250,000 above the IHT threshold. The estate is facing a potential £100,000 IHT bill. Ouch!

You may decide to use a Equity Release Home Reversion Plan to sell 70% to an equity-release company in return for a lump sum you can spend.

When you die, 70% reverts to the company and the other 30% reverts to your heirs and is likely to fall within the IHT exemption so there is no IHT tax to pay.

If you elect for a Equity Release Lifetime Mortgage instead, when you die the Plan Provider will sell your home, retain the rolled-up value of the Lifetime Mortgage and the remainder will revert to your heirs. Again, it is likely to fall within the exemption threshold so there is no IHT to pay.

There is another way of looking at it. Say you have used an Equity Release scheme and your heirs are liable for 40% on the top £50,000 of your estate, i.e. £20,000. With an Equity Release scheme value of £50,000, that slice of Inheritance Tax liability will be removed, thus effectively reducing the cost of the Equity Release scheme to your estate from £50,000 to £30,000.

If you are tempted to use the funds released via an Equity Release plan to reduce your potential Inheritance Tax (IHT) liability by using a life policy or other investment in trust, you should bear in mind that you might fail to survive for seven years after effecting the investment. If this were the case, then all or part of the value of your original investment would be added to your estate for the purposes of IHT depending upon your individual circumstances.

Unless expressly guaranteed, the value of the trust policy may go down, as well as up. If such a downward movement is combined with a fall in property values, however unlikely that seems at present; then it is possible that the total amount passing to your beneficiaries may be less than if you had not released capital and made an investment.

It might be unfashionable to say this, but it probably sound advice not to be too clever with these arrangements. Keep it as straightforward as possible. Make sure that you understand the financial method employed and leave the rocket science to … rocket scientists!

You should never embark on equity release just to reduce IHT, if you do not need extra capital or an income.

Always take professional advice from a Tax Specialist who can help you to decide if Equity Release can help your estate to mitigate IHT.