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Updated: 24 Sep 2019

HMRC collects a record £5.4bn from inheritance tax: but who actually pays?

Find out if you'll be hit with a 'death tax' charge to pay

Brits paid out the highest ever amount of inheritance tax (IHT) to HMRC in 2017-18, with the latest figures showing the bill totalled £5.4bn.

In addition, the highest number of people since 2009-10 were faced with 'death tax' charges. A total of 28,100 deaths in the UK triggered a charge in 2016-17, according to the latest HMRC figures, up 15% the year before.

The fact that the nil-rate band - the total value of your estate that can be inherited tax-free - has been frozen for the past 10 years is the most likely reason for this uptick. Indeed, the number of deaths resulting in IHT charges has consistently risen every year since 2009.

However, it may be that fewer people have to pay inheritance tax once the main residence nil-rate band kicks in for 2017-18 figures.

It's a particularly complex tax to understand, and one that causes many to worry their family will be left with bills to pay. But how likely is it that you'll actually have to foot the bill to HMRC?

We take a closer look at who is likely to pay inheritance tax, and look at how the charges might change in the future.

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Who pays inheritance tax?

While the 'death tax' numbers are on the rise, relatively few people will need to worry about inheritance tax.

The likelihood of landing with a tax bill depends on the value of your estate, and what you do with your money while you're alive.

Which estates are most likely to pay?

The data shows that most of the inheritance tax payments come from estates worth between £500,000 and £1m.

In 2016-17, 13,300 estates of this size had to pay inheritance tax - more than any other value range. Around half of all estates of this size ended up with a bill, with the average charge sitting at £90,600.

However, the likelihood of having to pay IHT is vastly increased for bigger estates, as the tax-free allowances won't cover much of their value. Of the estates worth more than £2m, 89% had to pay inheritance tax.

Will my gifts be taxed?

Under the current rules, you can make a gift from your estate during your lifetime tax-free, as long as you survive for at least seven years after giving it.

If you die within seven years, it's down to the recipient of the gift to pay up any tax that's due. But the chances of a friend or relative actually having to foot this bill are pretty slim.

First of all, any gifts made within seven years of death are taken out of the £325,000 tax-free allowance first, meaning you'd need to give away hundreds of thousands before the recipients paid any tax.

What's more, the taper allowance means the usual 40% IHT rate is reduced if you survived at least three years after giving the gift. The taper rate is illustrated below:

As a result, few people who receive a gift are likely to pay inheritance tax on it.

If you're looking to reduce any potential inheritance tax due when you die, you can make use of tax-free gifts. This includes giving £5,000 to your children when they get married, giving away £3,000 each year, or giving any number of smaller gifts with a value of £250 each.

You can also make tax-free gifts to UK charities, political parties, the National Trust, registered housing associations, national museums and universities without having to pay IHT.

How the main residence nil-rate band is changing

For most people, their home is likely to make up the biggest chunk of their estate.

To address this, an extra allowance of £150,000 was added to the £325,000 nil-rate band in April 2019 - and this is set to increase again in April 2020 to £175,000.

This means you could pass on up to £500,000 without tax next year, or £1m as a married couple pooling your allowance.

But there are some caveats to be aware of.

You can only use this allowance when you leave your home to a direct descendant, meaning either a child or grandchild (adopted children and step-children by marriage can also benefit). If you leave your property to any siblings, nieces, nephews or friends, the allowance won't apply.

There are also restrictions on the value of your estate. If it's worth more than £2m, the extra allowance tapers off, falling by £1 for each £2 above the threshold. So, in 2019-20, you'll lose the main residence nil-rate band if your estate is worth more than £2.3m (or £2.6m if you pool your allowance with your spouse).

As the latest figures only take in deaths during 2016-17 tax year, we won't see the effect of the main residence nil-rate band until next year's statistics are released.

Could inheritance tax be about to change?

We recently reported on an extensive review from the Office of Tax Simplification (OTS), which recommended a major overhaul to the inheritance tax system.

These included:

  • Shortening the time limit for taxable gifts: the current seven year threshold would be reduced to five years, so only more recent gifts are taxable.
  • Changing who pays tax on gifts: this would make the estate liable for paying inheritance tax on gifts, rather than the recipients.
  • Reforming IHT exemptions to gifts: the introduction of one 'personal gift allowance' to replace a number of tax-free gift exemptions.
  • Exempt all life insurance policies from inheritance tax: to solve confusion about how life insurance policy payments are taxed, all death benefit payments should be exempt.
  • Remove capital gains tax uplift where IHT exemption applies: this would change the rule to value assets at their original price, rather than the price when they were inherited.
  • Review treatment of businesses and farms: the OTS recommended looking at the many exemptions in place regarding to businesses and farms being passed on.

The government is currently considering these reforms and whether to implement them.

Find out more:six ways the 'death tax' could be changing

Editor's note: this article has been amended to say the latest stats showed the highest number of people since 2009-10 had to pay inheritance tax, not the highest number of people than ever before.