How to Avoid Inheritance Tax (without breaking the law)

Nobody likes to pay taxes, but inheritance tax has a particularly bad reputation.

It is often referred to as ‘double taxation’ as you are being taxed on money which you (presumably) have already paid income tax on during your working life.

However, as with all things HMRC-related, inheritance tax is unavoidable.

In short, the first £325,000 of your estate is exempt from taxation, but anything after that is taxed at 40 per cent.

Anything you have given away in the seven years up to your death is counted as part of your estate and taxed in the same way.

This means that your children or grandchildren could be presented with a steep tax bill for a cash gift which they received several years earlier.

However, there are a few ways in which you can minimise your inheritance tax burden, so that your family won’t have to deal with any unexpected bills after your death.

We’ve highlighted a few of the easiest ways to avoid inheritance tax, without breaking any laws…

  1. Give Away Your Money Early

Everyone is entitled to an ‘annual exception’ which allows you to give away £3,000 every year without incurring tax.

If you forget to give this money away one year, you can carry your allowance forward and give away £6,000 the next year.

However, you can only carry forward your allowance once, so be sure to make the most of it.
In addition, you can give up to £5,000 to each child, £2,500 to each grandchild or great-grandchild, and £1,000 to anyone else as a wedding gift, completely tax free.

These gifts do not affect the existing £3,000 annual allowanceYou can also give away any number of smaller gifts worth up to £250 without making the recipients liable for inheritance tax.

Anything that you give away beyond these amounts will be subject to inheritance tax, and the penalties can be steep. If you die within seven years of giving away your wealth, the recipients will be taxed up to 40 per cent on them, so the earlier you can start gifting your money, the better.

  1. Put Your life Insurance in a Trust

When you place your life insurance policy in a trust, it is no longer counted as being part of your estate.

Upon your death, the policy is paid out straight away with no inheritance tax liability.

Any insurance company has the ability to transfer your existing policy into a trust – it usually just requires a couple of phone calls and a few forms.

  1. Include charitable donations in your will

Charitable donations can help to reduce your tax burden both during your lifetime and after your death.

There is no inheritance tax charged on any donations made to registered charities, universities, national museums or art galleries, or UK-based political parties.

Furthermore, if at least 10 per cent of your taxable inheritance is gifted to charity, your inheritance tax rate goes down from 40 per cent to 36 per cent.

For instance, if your estate was worth £1.325m, then your taxable inheritance would be £1m, with £400,000 to be paid as inheritance tax.

However, if you left £100,000 to charity, the remaining £900,000 would be taxed at 36 per cent, reducing your tax bill to £324,000.

  1. Consider an equity release

This works sort of like a reverse mortgage, and has the dual benefit of both providing you with a regular income, and reducing the value of your home.

You borrow money against the value of your house, and choose to either draw a monthly sum from the total value, or to take the entire amount as a lump sum.

When you die, the value of the equity release (including any interest accrued) is deducted from the total value of your estate, thus reducing your inheritance tax liability.

  1. Spend it

The easiest (and most enjoyable) way to rid yourself of any taxable money is to simply spend it while you still can!

After all, HMRC can’t tax money that you no longer have.

Splash out on a lavish family trip, or invest in a future heirloom that can be passed down to future generations.

Fine art, jewellery and antiques can all be passed on to your heirs without being subject to inheritance tax.

However, the new owners will have to pay capital gains tax on them if they choose to sell them on after your death.

  1. Get married

Husbands, wives and civil partners can transfer wealth between one another, tax free.

Upon the death of one spouse, the £325,000 inheritance tax-free allowance is transferred to the other, doubling their allowance to £650,000.

It may not be the most romantic reason to get married, but it is undeniably tax-efficient!

Kathryn Gaw

Kathryn Gaw is a financial journalist based in Belfast, Northern Ireland. She has been writing about personal finance and investment trends for more than a decade, and her work has been featured in the Financial Times, City A.M., the Press Association, and The Irish Independent, among many other publications.