‘I'm desperate to invest but afraid of piling more inheritance tax on my daughters'
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Rachel Reeves's inheritance tax raid means it's growing ever harder to escape paying death duties.
The Chancellor's decision to strip pensions of inheritance tax relief as well as freezing the nil-rate band until 2030 means the number of estates liable to pay the death levy is forecast to more than double by the end of the decade, according to the Office for Budget Responsibility.
John Dixon is hoping to buck the trend. He has so far made few plans for how best to pass on his inheritance to his two daughters, but the death of his late wife Valerie in October has spurred him into action.
He says: 'Some of the inheritance tax rules are baffling. I'm concerned if I leave things as they are, I'll find myself in the 40pc bracket [the rate of tax charged on an estate above the threshold] and it's something I desperately want to avoid.'
The nil-rate band allows Mr Dixon to pass on £325,000 without incurring death duties, and he can pass on a further £175,000 if he leaves his home to a direct descendant. As his wife's allowance was unused, it means he can effectively pass on up to £1m to his daughters tax-free.
But, if Mr Dixon is going to avoid paying inheritance tax, he needs to act quickly. A highly successful career in the telecommunications industry has left the 74-year-old with an extensive portfolio of savings and investments.
He has amassed £320,000 in cash savings, including £50,000 sitting in his current account, on which he only earns 2.5pc interest on the first £25,000. He also holds the maximum £50,000 in premium bonds, while the rest of his cash sits in a number of different savings accounts.
Mr Dixon also has a stocks and shares Isa worth £53,000 after his wife's funds were transferred to his account. He says he does not regularly make use of the £20,000 tax-free allowance.
He says: 'I've got way too much in cash savings and I know it's ridiculous how much is in my current account. I'm desperate to get it out of there and put it somewhere where it can't do any harm in terms of additional taxes.'
Additionally, he owns his home outright and had it recently valued at £950,000, and a combination of the basic state pension and two workplace pensions provides an annual net income of around £43,000 a year.
As well as a positive attitude to addressing his finances, Mr Dixon is aided by a clean bill of health.
'I am from the North East and we would say 'I'm as fit as lop'. Everything works. I've got my own hair, my own teeth and, bar a few aches and pains of course, nothing desperately wrong.'
He also stays fit by playing 18 holes of golf four times a week, something that has provided great comfort.
'Since Valerie died, I found myself playing a lot more because it helps enormously to think about something else and not being dragged back to her death and all of the sadness associated with that.
'Golf has been enormously helpful in that respect and the guys that I play with regularly have also been very helpful and supportive.'
Dan Caps, investment manager, Evelyn Partners
Based on the figures Mr Dixon has provided, his estate is made up of his home – valued at £950,000 – his cash savings of £320,000 and his Isa of £53,000. All of this brings his estate to £1.3m. Mr Dixon will also need to think about any personal effects and chattels that may need to be considered.
Mr Dixon has confirmed that his wife's nil-rate band is unused, and the good news is this will pass to him automatically. Mr Dixon should also be able to benefit from both his and his wife's additional residence nil rate band, which was introduced in 2017. As such, he can pass on the first £1m of his estate free from inheritance tax, while any excess over this level will be subject to inheritance tax at 40pc.
It is worth bearing in mind that Mr Dixon would begin to lose the benefit of the resident nil-rate band should his estate exceed £2m on his death, but given the valuation this currently seems unlikely.
So, based on the above estate value of £1,323,000, Mr Dixon's current inheritance tax liability is in the region of £129,200.
There are several steps Mr Dixon can take to mitigate inheritance tax, and he has already mentioned he is exploring gifts out of surplus income. As Mr Dixon's income exceeds his expenditure, he is able to give away the surplus and this will immediately fall outside his estate for inheritance tax.
Mr Dixon should be able to demonstrate that these funds are not necessary to meet his standard of living, and a regular pattern to these gifts helps evidence this. As with all gifts, these should be documented, which will help when it eventually comes to dealing with his estate.
In addition to this, Mr Dixon could gift some of the funds he holds in cash or in his Isa, and he tells us he has 'way too much' in cash savings. Larger gifts are subject to the potentially exempt transfer rules, which means they will fall outside Mr Dixon's estate seven years after the gift is made.
Before Mr Dixon gives away large sums, he should think whether he may need these funds for himself in the future – to meet any care fees, for example. He should plan carefully and think about talking to a financial planner, who will be able to construct a cash flow forecast for him, which will give him greater confidence when making gifts.
There are also lots of other ways to mitigate inheritance tax, including life assurance policies, investments which attract business relief and are free from inheritance tax after two years of ownership, and other smaller annual gift exemptions.
All inheritance planning strategies require some form of trade-off and often a combination of a number of different strategies is most suitable. Again, a financial planner will be able to help Mr Dixon review all the options available to him.
Gary Steel, senior wealth planner, Canaccord Wealth
The first step would be to consider Mr Dixon's current plans given his recent change in circumstances. Does he want to stay in his current home? What changes does he see for himself in the future? We need to make sure he has sufficient funds and flexibility to enable him to live the lifestyle he wishes while also planning for the future.
I would also recommend that Mr Dixon reviews his will at this stage to make sure his wealth is passed to his daughters on his death. He should also ensure he has drafted suitable Lasting Power of Attorney documents – a qualified lawyer would be invaluable here.
Mr Dixon's wife died less than two years ago, so it should be possible to vary her will – assuming she passed her estate to her husband – to pass some of her wealth to their daughters. This would reduce the value of Mr Dixon's estate for inheritance tax purposes.
As well as making gifts from surplus income, up to £3,000 per tax year can also be gifted by Mr Dixon, which is immediately free of inheritance tax. HMRC Form 403 shows how to calculate surplus income.
But before making gifts, Mr Dixon needs to carefully consider his own requirements. A key factor is to ensure he has enough money for the rest of his life. A detailed cash flow analysis with a financial adviser will help him explore various 'what if' scenarios, help him make informed decisions and give peace of mind as he moves into the next stage of his life.
The remainder of Mr Dixon's cash could be invested to achieve potentially greater returns than bank deposits, as well as keep pace with inflation.
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