5 great strategies you could consider for reducing Inheritance Tax


When you’re planning for your death, you need to give some serious consideration to reducing Inheritance Tax (IHT).

As standard, IHT is charged at 40% on the total of your assets above a threshold called the “nil-rate band” (NRB). The NRB is a tax-free allowance before IHT is due, currently standing at £325,000, as of the 2021/22 tax year.

You may also potentially be able to make use of the residence nil-rate-band (RNRB), giving you a further £175,000 tax-free allowance if you pass your home to children or grandchildren.

That means you may be able to pass on up to £500,000 of your money to your family without incurring a tax bill. If you’re married, this could be up to £1 million, as you can include your partner’s tax-free allowances.

However, any value of money and assets over these amounts will be taxed at 40%. This could put a severe dent in your family’s inheritance.

That’s why it’s important to look at methods for reducing an IHT liability, so you can give as much of your money as possible to your loved ones, rather than to the government.

Here are five strategies you could consider.

1. Drawing income efficiently in retirement

The first thing to consider when trying to reduce an IHT bill is how you intend to draw income in retirement.

For example, the value of your pension will typically fall outside your estate. Therefore, it might be more sensible to use your cash savings and sell any investments to provide you with an income.

That way, your family could inherit the value of your pension without paying IHT.

However, don’t forget that when selling investments that have gone up in value and aren’t shielded in an ISA, you may have to pay Capital Gains Tax (CGT).

CGT is charged on any gain in value of your assets above the CGT allowance, which is £12,300 as of the 2021/22 tax year.

Of course, the CGT rate is lower than the IHT rate, charged at 10% for basic-rate taxpayers, and 20% for higher- or additional-rate taxpayers. There’s also an extra 8% to pay if you’re selling residential property that isn’t your main residence.

This may make it cheaper to sell assets than to pay the 40% IHT rate on them.

2. Gifting money

A popular way to reduce your IHT position is by gifting your money to your family. This reduces the value of your estate, limiting the amount of tax you have to pay on your assets.

Each tax year, you have a personal gifting allowance where you can give money to anyone you like without it being included in your estate. Currently, as of the 2021/22 tax year, you can gift up to £3,000, or £6,000 as a couple, each tax year.

Aside from the gifting allowance, you can theoretically gift as much as you like to anyone to further reduce the total of your money and assets.

However, you must survive gifts greater than your allowance by seven years or more. If you don’t, you’ll be charged a rate of IHT depending on how soon you died after making your gift. This is called “taper relief”, with rates as detailed in the table below:

If you do decide to gift money, make sure you keep accurate records of what you gifted, when, and to whom. That way, your executors will know not to include that money in the value of your estate.

3. Enterprise Investment Schemes and Alternative Index Market investments

If you hold stocks and shares, even if they’re in an ISA, your investments will be included in the value of your estate.

But, if you make investments in Enterprise Investment Schemes (EISs) or in the Alternative Index Market (AIM), your investments are free from IHT. You must have held them for two years or more on your death for them to fall outside your estate.

Therefore, to reduce an IHT bill, you could consider making investments in EISs or AIM-listed companies.

However, bear in mind that these investments do carry greater risk than other stocks and shares as they’re not yet established companies.

Make sure you speak to a financial adviser first, as otherwise you may be taking on more risk than you want to, or potentially can afford.

4. Putting money in trust

Trusts are a great way to pass wealth securely to your family. They allow you to protect your wealth from third-party claims, ensuring it goes to those of your choice.

When you put money in trust, you lock it away for a specific individual of your choice, known as a “beneficiary”. You then appoint another individual, known as a “trustee”, who will give the beneficiary access to the money in trust at a time of your choosing, as detailed in your will.

You may have already heard of trust planning as a secure way to protect your family’s inheritance. But did you know that trusts can also reduce your IHT bill?

The rules around trusts and IHT can be complex, but they essentially work in three stages.

Firstly, you’ll pay 20% IHT when you initially put the money in trust, minus your tax-free NRB.

So, for example, if you put £500,000 into trust, you’d pay a tax charge of £35,000, as that’s 20% of the £175,000 that isn’t covered by your £325,000 NRB.

Next, you’ll pay 6% IHT each 10-year anniversary after you opened the trust, again minus any remaining NRB.

Finally, when the trustee closes the trust and the beneficiary claims their wealth, there’ll be a final tax charge of 6%, less any remaining NRB.

Overall, this method could reduce your IHT bill on money held in trust by up to 14%.

5. Charitable gifts

By leaving money to charity in your will, you can reduce your total IHT bill.

If you leave 10% of your total estate to charity in your will, the government will reduce your IHT rate to 36%.

This may not sound like much, but it could mean an extra 4% of your wealth going to your family. You’ll also be supporting good causes in the process.

Get in touch

If you’d like to find out the most tax-efficient ways for you to pass your wealth to your family, please get in touch with us at Holborn Financial.

To find out more, email info@holbornfinancial.com or call 020 8946 8186.

Please note

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.

The Financial Conduct Authority does not regulate estate planning, tax planning or will writing.

This article is for information only. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.