Understanding inheritance tax (IHT) can feel daunting, but it’s basically a tax on the value of everything you own when you die, including your home, savings, investments, personal belongings and, from April 2027, most unused pension funds. These are your assets, and together they make up your estate. If your estate, after debts are taken off, is worth more than your available IHT allowances when you die, IHT may be due.
Generally, you don’t have to live in the UK to fall under UK inheritance tax rules. What matters is whether you are a long-term UK resident, or whether you just own assets here. If you are a long-term UK resident, inheritance tax can apply to everything you own worldwide. If it isn’t, then it normally only applies to the things you own in the UK, such as property or money held here.
It's important to remember that tax rules are subject to change and depend on individual circumstances.
Why this matters now
Inheritance tax allowances have stayed the same since 2009 and won’t change until at least April 2031, which means in total, they’ll be fixed for more than twenty years. During that time, property prices and savings should have risen, and most unused pension funds will, from April 2027, also be included in the estate for IHT purposes. As a result, people who never expected to be affected could face an inheritance tax bill either now or later on.
With this in mind, it makes sense to familiarise yourself with the rules, review your financial arrangements and work out any potential IHT liability your estate may have now or in the future
The basic rules
- You can leave £325,000 tax free. This is known as your nil rate band.
- Anything you leave above this is normally taxed at 40 percent, unless other available IHT allowances or exemptions apply.
A further £175,000 allowance, known as the residence nil rate band (RNRB), may also be available if you leave your home to direct descendants including adopted, foster or stepchildren.
The RNRB allowance starts to taper away once your estate is worth more than £2 million, reducing by £1 for every £2 above that figure.
If you leave anything to a registered charity, it’s entirely tax free. Plus, if you donate 10 percent or more of your net estate, the inheritance tax rate drops to 36 percent instead of 40 percent.
Making full use of available allowances may help you to pay less tax, leave more to loved ones, and you can share any unused nil rate band and residence nil rate band allowances with your spouse or civil partner.
Who pays the tax?
Your executor handles the tax if you have a will. If not, an administrator takes care of it. If the tax relates to a gift you made, the person who received the gift pays instead.
Do I need to make changes to my will because of the new pension rules?
You might need to consider this. For further advice please speak to your lawyer or financial advisor. The changes aren’t final, but nothing suggests you’ll have to update your will. Your executor and, in some cases, your pension provider will normally handle any inheritance tax that applies. It’s still worth checking that you’ve nominated or updated your beneficiaries with your pension provider, as knowing your wishes helps guide the pension trustees or administrators.
Gifts and how they work
Giving away money or assets can reduce the value of your estate. Some gifts may still incur inheritance tax years for up to seven years after you have given. The tax rate on those gifts drops the longer you live: 0 to 3 years, 40 percent, 3 to 4 years, 32 percent, 4 to 5 years, 24 percent, 5 to 6 years, 16 percent, 6 to 7 years, 8 percent. After 7 years, there is no inheritance tax on the gift.
Some gifts are always tax free, such as gifts within your nil rate band, gifts to your spouse, donations to charity, regular gifts from surplus income, your annual £3,000 allowance, certain wedding gifts and reasonable funeral costs.
If you give something away but still benefit from it (a ‘gift with reservation’), it will count towards the value of your estate.
Your home and your partner
Leaving your home to direct descendants can lift your total tax free amount up to £500,000. If you’re married or in a civil partnership, anything you leave to each other is usually tax free, and unused allowances can be transferred, meaning a couple can currently leave up to £1 million without inheritance tax if the estate is worth less than £2 million and they qualify for the residence nil rate band.
Planning ahead
A clear will, a simple list of what you own, some good advice and regular reviews can make things much easier for your loved ones.
Ways to reduce your estate
You can utilise allowances and gifting as we’ve covered earlier. However, many people have most of their wealth tied up in their home, which can make it harder to gift money, maintain their property or cover living and future care costs. This can affect quality of life and make it tricky to reduce the value of an estate. Some people consider options like downsizing or releasing equity if they are over 55 to free up money for personal needs or gifting.
You can also speak to a solicitor about things like setting up trusts for your home or changing how it is owned, although it’s important to make sure you are working with a reputable solicitor before moving forward.
Insurance and annuities
Life insurance may be a way to help your family pay any inheritance tax due without selling assets. Whole of life cover written in trust is often used, and decreasing term assurance can protect gifts within the seven year rule.
Traditional pension annuities and immediate life annuities are liable to income tax, but they can help reduce inheritance tax because they turn a lump sum into a regular income, which means the money is no longer part of your estate. Once you buy an annuity that money is locked in, and some death benefits may still count toward your estate. Immediate life annuities, which you buy with your own savings, may also come with reduced income tax liabilities and can be a helpful way to cover care costs for you or someone close to you.
There are lots of types and options, so it can be helpful to get clear, free and impartial guidance from MoneyHelper. They also offer Pension Wise appointments for anyone currently aged 50 or over to help you understand your retirement and later life choices. Annuities are generally available from age 55, although this will increase to 57 from April 2028.
Financial advice
Getting financial advice for inheritance tax is important, especially now that pension changes may mean your pot counts as part of your estate. The rules are complex, and small mistakes can be costly. An adviser can explain your options; help you make confident decisions and make sure your plans work properly. There’s usually a cost, but many people save far more in reduced tax and avoided errors. It also removes stress for you and your family and gives everyone more peace of mind.
For tailored advice, speak to your own adviser. If you don’t have an adviser MoneyHelper provides up-to-date resources to help you find regulated advisers. You can also find a specialist through the Society of Later Life Advisers (SOLLA).
