The Residence Nil Rate Band (RNRB):
You may already be aware that UK expatriates are still liable to inheritance tax (IHT) as is based on your domicile and not your usual tax residence status. Furthermore the tax is applied to your worldwide estate. A lot can be done to mitigate or remove such a liability with comprehensive financial planning however the proper course of action for property assets has always been the major point of consideration for most clients. Recent changes to the rules around your main residence bring some potentially large benefits
Inheritance Tax (IHT) is currently charged on the value of the chargeable estate which exceeds the current Nil Rate Band allowance of £325,000. Although this Nil Rate Band is now set to stay at £325,000 until 2020/21, an additional Residence Nil Rate Band (RNRB) will be introduced from 6 April 2017 when a deceased’s interest in a ‘residence’ is passed on death to a ‘direct descendant’ and will be phased in as follows:
• £100,000 for deaths in the tax year 2017/18
• £125,000 for deaths in the tax year 2018/19
• £150,000 for deaths in the tax year 2019/20
• £175,000 for deaths in the tax year 2020/21
• The RNRB will then increase in line with Consumer Price Index (CPI) from 2021/22 onwards.
‘Residence’ means a residential property which has been the deceased’s residence at some point and is included in his/her estate at death. If there is more than one such residence in the estate then Personal Representatives will be able to nominate which residential property should qualify. The value of the RNRB will be the lower of the net value of the deceased’s interest in the residence (i.e. after liabilities such as mortgage) and the maximum amount of the RNRB in the year of death, as above.
The residence must be left to one or more ‘direct descendant’, which has been confirmed as children (including step-children, adopted and foster children and children for whom the deceased was a guardian) and their lineal descendants. Also included are spouses and civil partners of lineal descendants or, in certain circumstances, widows/widowers or surviving civil partners of lineal descendants (if they have not remarried). Gifts in the Will to discretionary trusts (other than specific types of trust for bereaved minors and disabled persons or Immediate Post Death Interest (IPDI) trusts will not qualify as a gift to a ‘direct descendant’. However, currently, this does not affect the use of the s144 reading back provisions, so that transfers from a Will trust to ‘direct descendants’ within 2 years of death should still qualify.
Lifetime gifts of the residence to direct descendants will not qualify for the allowance, unless the deceased retained an interest (Gift with Reservation of Benefit) so that the residence is treated as still being part of the deceased’s estate at death for IHT purposes.
Any unused proportion of the RNRB will be available to be transferred to a surviving spouse or civil partner, if the first death is after 7 July 2015 and the second death is after 5 April 2017, in the same way as for the existing Nil Rate Band allowance. For deaths before 6 April 2017, the RNRB is deemed to be £100,000. It is possible to claim the unused RNRB of more than one pre-deceased spouse but it is not possible to claim more than an additional 100% of the RNRB at the prevailing rate.
Given that we know the RNRB will increase in the years from 2017/18 to 2020/21, depending on when the first spouse dies and the values involved, it may be worthwhile planning for the RNRB to be transferred to the surviving spouse, so that the joint estate will benefit from a double RNRB at the prevailing (higher) rate. Obviously, this would have to be considered alongside the tapering of the RNRB for larger estates, because using the RNRB on first death may help to keep the survivor’s estate below the threshold.
Tapering of the RNRB for larger estates
There will be a tapering of the RNRB for estates over £2 million. The £2 million threshold is set for the years 2017/18 – 2020/21 but is set to rise in line with the CPI after that.
For estates over this threshold, the RNRB will be lost at a rate of £1 for every £2 over the threshold. For example, a net estate of £2,350,000 in 2020/21 will not qualify for any RNRB allowance (assuming there is no allowance to carry forward). This tapering also applies in respect of calculating the transferable RNRB allowance so that, if the net estate of the first spouse to die was over £2 million, it will be necessary to calculate the reduced amount of the RNRB that is available to carry forward for the estate of the surviving spouse. Crucially, when calculating the ‘estate’ this includes assets that qualify for relief from IHT (e.g. Business Property Relief) but does not include gifts made in the seven years before death. This makes lifetime gifts more attractive as it may be possible to make sufficient gifts to take the value of the estate at death below the £2 million threshold, so that the RNRB will not be reduced. Clearly the assets given away should be those other than the residence.
To ensure that those people who sell their homes or ‘downsize’ to pay for long term care are not disadvantaged, HMRC have confirmed that the RNRB will also be available when a person ceases to own their home after 8 July 2015 and assets of an equivalent value and/or a lower value residence, up to the value of the RNRB, are still owned in the estate and passed on death to direct descendants. The amount of the RNRB available cannot be more than the RNRB that would have been available had the downsizing not happened. HMRC have recently published a technical note outlining the proposals for this and are asking for comments but the draft legislation has not yet been published.
This is a targeted measure, in line with the Conservative promise to increase the Nil Rate Band and allow people to pass on their ‘home’ to the next generation. Consequently, the legislation is complex and existing structures in Wills should to be reviewed, to ensure that the available allowances are utilised and to take advantage of any particular IHT planning points.
There is no great logic to the conditions imposed. To qualify in full:
- Your estate has to be less than £2M;
- Your house has to be valuable enough (at least £175,000);
- You have to be married if you want the allowance to be transferrable;
- Your house has to pass to your children/grandchildren on your death.
All pretty arbitrary but for the most part fairly clear cut. You probably wouldn’t change your personal circumstances just to qualify for the relief. You may consider making gifts or spending to reduce your estate but you probably wouldn’t (or shouldn’t) move to a more expensive house or get married or have children.
You should, however, review your will. If your house is not left directly to a lineal descendant the relief is not available. Put an age condition over 25 on a gift to a child or any age condition on a gift to a grandchild and you will not qualify.
The potential loss of relief is significant
Stipulating such a condition though has been and remains sensible in a straight forward will to ensure that an inheritance is received only when a child is financially mature enough to receive it. Many people will have made a decision about the age at which a child or grandchild inherits in their wills before the Residence Nil Rate Band was even a ‘twinkle’ in the government’s eye. The potential loss of relief is significant. For a married couple it could be as much as £140,000. The relief comes into effect in April next year. Time to review those wills.
Contact us today if you would like more information on how Intelligent Investments with our internal and external estate planning experts can help.