If you’re estate is worth more than £325,000 (£650,000 for married couples and civil partners), some of it could go to HM Revenue & Customs in inheritance tax when you pass on.
Less so where the additional Residence Nil Rate Band applies – a husband and wife could have an extra £175,000 each (£350,000 in total) if their house value is above this amount and they leave it to their lineal descendants.
Should you still face a tax bill consider giving away assets while you are alive.
Gifts to your spouse or civil partner are usually tax-free. In addition, there is an annual exemption of £3,000 in any tax year. Then there are one-offs – a child’s wedding present is tax-free up to £5,000.
From there it gets more complicated.
Consumer champion Which notes: “It’s a good idea to plan how you want to do this. Most gifts to people made more than seven years before your death are tax-free.”
Which brings us to – does it make sense to gift surplus pension income?
Investment group Abrdn notes: “Pension freedom changed the dynamics of estate planning, with many individuals now gifting or spending assets which are part of the estate before touching their pension pot which remains IHT free.
“So gifting pension income using the ‘normal expenditure out of income’ IHT exemption might seem a pointless exercise. After all, why give away something which isn’t in your estate in the first place? But there may still be a strong motivation to do so.”
To clarify, ‘normal expenditure out of income’ is a valuable tool. It exempts transfers if, taking one year with another, it can be shown that the gifts – formed part of the donor’s usual expenditure; were made out of income; and left the donor with sufficient to maintain their normal standard of living.
Abrdn goes on: “Many people don’t start thinking about estate planning until after they have ceased working. The priority must, of course, be ensuring their own income security in old age. But, even with a fall in income in retirement, some may still have more coming in than they need.
“Income from annuities or DB pensions can’t be adjusted, so any excess may end up simply being accumulated in the estate. However, if that surplus is given away on a regular basis and the exemption claimed it is immediately outside the estate.”
Those in drawdown have greater freedom to pass on their accumulated pension savings.
That is particularly useful where beneficiaries need the money now rather than after the donor has died.
Or that person may simply wish to see their loved ones enjoy the money.
Abrdn states: “HMRC have confirmed that regular withdrawals from flexible pensions, irrespective of the levels withdrawn and whether taken as tax free cash or taxable income, always count as income for the purpose of the IHT exemption. This creates an opportunity for at least 25 per cent of the pension fund to be taken and gifted both income tax and IHT free.”
Spreading the gifting of tax free cash over a number of years using a phasing strategy, so that all is taken by your 75th birthday, is a good option.
Anyone who intends using the exemption needs to keep not only details of the gifts made but also income and expenditure stats.
However, a word of caution.
Abrdn adds: “There is an obvious estate planning advantage to making gifts of assets which form part of the estate before giving away pension funds which do not. So capital gifting may take precedence over income gifts unless other savings have already been exhausted.”