Millions think they’ll never pay inheritance tax. They may be surprised

Millions of families wrongly assume they will never pay the hated “death tax”, despite bills climbing to a record high. They could be in for a shock as growing numbers fall into the taxman’s net every year.

More than a third of over-55s have no idea whether their family will pay IHT on their death, with many wrongly assuming they are not wealthy enough.

That is despite a 24 percent rise in the number of people paying IHT in the last financial year to £7.1billion, and HM Revenue & Customs is on course to pocket even more this year.

Campaigners have called on Chancellor Jeremy Hunt to reform this complicated and costly tax, but he is likely to resist giving how lucrative it is, said Rachael Griffin, tax and financial planning expert at Quilter. “IHT rules may be dated but the Chancellor may resist reform for as long as possible.”

Abolishing IHT altogether would punch a hole in the budget, compounding an already bleak economic outlook, Griffin added. “However, with the next general election on the horizon in 2024, Rishi Sunak may believe he has no choice but to reform one of the most hated taxes in Britain as a way to win favour by helping more Brits pass on wealth to the next generation.”

Voters cannot assume that will happen and should prepare for the IHT take to rise. Yet many are failing to do so.

The basic £325,000 IHT allowance was set in 2009 and hasn’t changed since, while house prices and stock markets have risen strongly.

The nil-rate band will remain frozen until 2028, dragging more people into the net even as house price growth slows.

Millions of over 55s are at risk of leaving families with a significant tax bill by failing to plan, according to financial planning experts at fund manager Abrdn.

Three in 10 think they’re not rich enough but when asked to value their current wealth the average estimate was £354,000 across the UK as a whole, rising to £556,999 in London.

Both estimates are above the £325,000 nil-rate band at which point IHT kicks in, at a punitive rate of 40 percent on the surplus. Some will be protected by the £175,000 main residence nil-rate band when passing on the family home, but not everyone will.

IHT rules are complex, and more than three quarters do not understand how the main residence nil-rate band works.

A similar proportion admit they have no idea how to reduce their inheritance tax exposure, while many don’t know how to value their property, savings and investments.

Inheritance tax is no longer the wealth tax it once was and we all need to wake up to that fact, said Abrdn’s financial planning expert Shona Lowe. “The confusion is putting millions at risk of being hit with an unexpected, and potentially considerable, tax bill after the death of a loved one.”

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More than half fail to understand the seven-year rule, which states that gifts only fully escape IHT if the donor survives for another seven years after making them.

Even more fail to get their heads round complex gifting rules, that allow everyone to gift up to £3,000 a year to a loved one with instant IHT exemption, plus smaller gifts of £250 to others.

Tax-free gifts on marriage and regular gifts from normal expenditure are other options, but rules are complex and many ordinary people come unstuck while the wealthy pay for advice. “Navigating inheritance tax is daunting so plan ahead and talk to loved ones,” Lowe said.

Writing a will or setting up a trust can also cut your exposure but many don’t know where to start, she added.

IHT misunderstandings are a key factor preventing people from seeking support around planning, whether from friends, family or a professional financial adviser.

“It’s a human instinct to want to pass on as much as you can to your loved ones and understanding the rules around inheritance tax can help you reduce, or even getting rid of, that tax bill,” Lowe added.

It’s worth taking a quick look at all your assets, including the value of your home, to see whether you are likely to breach IHT thresholds not just today but in future.

You could be in for a shock. If so, start planning.