At last some good news from the Treasury concerning inheritance tax. However, despite the press headlines, the changes announced by the chancellor, Mr Darling, are more about the operation of the allowances than increasing them. Prior to the announcement we each had a tax free allowance, often referred to as the ‘nil-rate sum’, that we were able to pass to our beneficiaries on our death without any inheritance tax being payable. For 2007/2008 this allowance is £300,000 with increases already announced for each year to 2010 when it will be £350,000. Following the announcement this is still the case.
What has changed is the way the allowances are utilised by a married couple or those in a civil partnership. Previously, if the first spouse to die gave everything to the surviving spouse the allowance of the first spouse was wasted. The assets passed to the surviving spouse free of tax using the spouse exemption not the nil-rate allowance. The surviving spouse then held all the assets and when they died had one nil-rate allowance available against the total value leaving their estate liable for inheritance tax on everything above that.
The change announced on 9 October means that the surviving spouse will now be able to use the unused allowance of the first spouse to die, either in full or as far as it has not been used on the first death, in addition to their own allowance. In other words, whereas before in order to fully utilise the full allowances available to the couple it was necessary to use the single allowance available on each death, now a couple may choose to use both allowances on the second death.
So should you choose to do that?
Clearly the new arrangements will benefit those couples who had not considered tax planning prior to the death of the first of them. However, tax planning is not the only motivation for protecting assets.
Where the tax planning arrangements comprise the use of a discretionary trust in your Will (usually combined with holding property as tenants-in-common) this is still effective for those other purposes. The other main purpose of these arrangements being to protect as much of the combined estate as possible from being used to pay for any care fees for the surviving spouse.
Other reasons would include protecting the assets of the first spouse to die from being inherited by any new spouse/partner of the surviving spouse, or to ensure that assets pass to your own children where spouses are not both the parents.
Protecting the estate from inheritance tax should also not be ruled out completely. In particular where the assets may grow in value between the two deaths to a combined level above twice the nil-rate allowance (i.e. currently £600,000). In that case the estate of the second spouse to die will be liable for inheritance tax on the value of the estate above the available allowance. By putting assets into a trust on the first death the growth on those assets is in the trust. This is more relevant where assets are already at or close to the combined allowance, or where the period between the deaths may be long and therefore the potential for growth following the first death is greater.
Finally, utilising the allowance on the first death may just be simpler. As already mentioned any allowance not used is available for the surviving spouse on their death. This looks relatively easy when straightforward examples are used eg. The allowance when the first spouse dies is £300,000 and on their death they use £150,000 of that allowance. This leaves half of the allowance available for the second spouse. If the allowance on the second death is £350,000 then half of that is £175,000, so a combined allowance available of £525,000. It is unlikely that the figures would be so straightforward much of the time. Consider the calculations necessary where the allowance on the first death is £315,000 and £61,327 of it is used and the allowance on the second death is £325,000.
Certainly I recommend that arrangements currently in place should be reviewed in light of the change. For many I expect the arrangements to be left in place for the reasons outlined above. However, if you wish to make a new simpler Will please do not hesitate to contact us. In this regard you should bear in mind that the changes that have been announced do not yet have legal force. They will not become law until the Finance Act 2008 is passed, likely to be during July next year. However, we do not anticipate there will be much opposition to the main proposals.