The Chancellor today confirmed changes which will effectively raise the inheritance tax threshold to £1m for married couples who leave their home to their children or grandchildren.
Inheritance tax (IHT) is payable on everything you leave in your estate above the tax-free limit – in other words, your beneficiaries have to pay tax, at 40%, on anything they inherit above this limit.
It does not apply to transfers between married couples and civil partners – so a widow can inherit her husband’s entire estate tax-free, for example.
Inheritance tax threshold rises to £1m
In 2010, Mr Osborne signalled an intention to raise the IHT threshold to £1m but the Coalition government froze it at £325,000, where it has been since 2009.
In today’s Summer Budget, the Chancellor brought in a new transferable main residence allowance, which will gradually increase from £100,000 in April 2017 to £175,000 per person by 2020/21.
Due to rising house prices, many more families have become liable for inheritance tax; Mr Osborne said that the number was set to double over the next five years.
Find out more: 2015 Summer Budget– the main announcements and changes
Inheritance tax winners and losers
This table shows the impact of the Budget announcement on estates of different sizes. Some will pay less inheritance tax, but others could end up paying more.
|Inheritance tax changes|
|Value of joint estate
(including family home)
|IHT due under current rules||IHT due in 2020||Change in tax due|
1 Tax-free allowance withdrawn at rate of £1 for each £2 above £2,000,000 threshold
2 No extra allowance applies above £2,700,000
Higher inheritance tax for larger estates
The new allowance is in addition to the £325,000 (per person) tax-free allowance. Where someone is leaving a property to their children or grandchildren it will take their total IHT exemption to:
- £425,000 in 2017/18
- £450,000 in 2018/19
- £475,000 in 2019/20
- and £500,000 in 2020/21.
Married partners can claim unused inheritance tax allowance from a deceased spouse – so a couple with a property to leave get an effective doubling of the combined exemption between them.
The total exemption will rise each year to:
- £850,000 in 2017/18
- £900,000 in 2018/19
- £950,000 in 2019/20
- and £1m in 2020/21.
Although the Chancellor’s announcement will eventually remove an estimated 20,000 estates from IHT each year, the new main residence allowance is progressively withdrawn once a couple’s estate (including the family home) tops £2m. The withdrawal rate is £1 for every £2 over the £2m limit.
Where a joint estate is worth £2.7m there will be no extra allowance, so the estate is taxed on everything over £650,000.
Inheritance tax changes in practice: an example
Say Mr and Mrs Smith jointly own a house worth £750,000 and have savings and other assets worth £250,000 – so an estate worth £1m in total.
Mr Smith dies in 2005 and leaves his entire estate to his wife. Under the current rules, when Mrs Smith dies her heirs can claim a double allowance of £650,000 on a total estate worth £1m. This leaves £350,000 to be taxed at 40%. The IHT due is £140,000.
Under the new rules
If Mrs Smith dies in 2020 – after the full change takes place – the transferred allowance from her husband will be £325,000 plus £175,000, a total of £500,000.
Mrs Smith’s own allowance is also boosted from £325,000 to £500,000, so the couple’s entire estate, worth £1m, is effectively IHT-free. This is because the first £650,000 takes their £250,000 savings and £400, 000 of the value of the family home out of tax.
The remaining £350,000 of their property is covered by the new transferable main residence allowance of £175,000 per person.