Residence nil rate band
If you’re worried that rising house prices over the years might have pushed the value of your estate into the realms of paying inheritance tax, you might be able to take some comfort from the introduction of the ‘residence nil rate band’ from 6th April this year. Much hailed as a £1 million threshold for inheritance tax, it’s not as simple as it sounds and not everyone will be able to take advantage of this or be eligible for the maximum allowance.
So, how will it work and who will benefit? For starters, every individual, regardless of marital status, the type of assets in your estate, or who is inheriting from you, has a nil rate band of £325,000 above which your estate would be taxed at 40%. If you are married or in a civil partnership at the time of your death and leave your estate to your spouse/ civil partner, your estate will be exempt and you will not use up the nil rate band. The unused nil rate band can then be transferred to your spouse/ civil partner’s estate on their death (or it can be transferred to your estate if you have been widowed), giving an additional £325,000 on top of their own allowance of £325,000. The value of the estate would need to be more than £650,000 before inheritance tax is charged.
The ‘residence nil rate band’ kicks in if, for deaths after 6th April 2017, your estate includes a home and you are passing it on to direct descendants, and the value of your estate is not more than £2 million. For the tax year 2017-18 the residence nil rate band is £100,000 and this will increase by £25,000 each year until 2020-21 when it will be £175,000 (after which it will increase in line with inflation). Again, this can be transferred to a surviving spouse/ civil partner’s estate, potentially adding an extra allowance of £350,000. If you have been widowed, regardless of how long ago, this can be transferred to your estate. Add this to the £650,000 and you have the magic £1 million. But not until 2020, for 2017-18 the maximum combined allowances will total £850,000.
Of course, there are plenty of caveats and points to note which make this simple sounding allowance more complex. The home that you own doesn’t have to be your ‘main’ residence, it’s not always necessary that you were living in it up to your death. It’s not always necessary that you actually own a home at all at the time of your death. There are provisions to take account of circumstances where you might have downsized to a smaller, less valuable, house so that your estate can still utilise the whole of the residence nil rate band. There are also provisions to allow this if you have sold your house and do not own another one (e.g. if you have moved into residential care). This all sounds quite flexible.
Not so flexible are the rules about who you leave your home to. The people inheriting your home (or its cash equivalent) must be direct descendants and the definitions are quite clear that this is on a lineal basis. Your home must be passed to children, grandchildren or other lineal descendants. Although ‘children’ includes step-children (narrowly defined as being your spouse/ civil partner’s children, it does not apply to the children of your cohabitant), foster children and any child under 18 for whom you are appointed as a guardian, and it also applies to the spouse/ civil partner of your lineal descendants, you will not be able to use the residence nil rate band if you are passing your home to other members of your family, e.g. your brothers and sisters, your nephews and nieces, cousins or any other relations. Also, although some types of trusts are deemed to be acceptable, if your estate is being put into a discretionary trust it won’t be eligible for the residence nil rate band, even if the only potential beneficiaries of the trust are your lineal descendants.
This will be a useful additional tax free allowance for some, but by no means for all. We’re yet to see how this will work in practice given the complexities of modern family and financial circumstances. This is a good time to think things through and discuss it with your solicitor.