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How to cut your Inheritance Tax bill

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When you die, make sure you leave as much of your cash as possible to your loved ones, rather than the taxman.

When do you pay Inheritance Tax?

The average Inheritance Tax bill is more than a whopping £170,000, according to the latest analysis of HMRC data by Prudential.

That;s a staggering amount of money, so it's little wonder that most of us want to work out how to cut that bill if possible.

So when do you pay Inheritance Tax?

Your family will have to pay a rate of 40% if your estate is valued above the IHT threshold when you die. The IHT threshold is known as the nil-rate band. 

The threshold currently stands at £325,000 for individuals or £650,000 for people who are married, in a civil partnership or widowed.

Estates liable to pay this tax paid an average of £170,000 in 2012-13, up 3% from the previous financial year.

What is changing?

From April 2017, a new transferable nil-rate band will be introduced – the main residence nil-rate band - which only applies when a main residence is passed to children or grandchildren after death.

The allowance will be worth up to £100,000 in 2017-18, rising each year up to £175,000 in 2020-21.

This new band sits on top of the existing Inheritance Tax threshold, so creates an effective threshold of £500,000 for individuals and £1 million for couples by 2020-21.

What if I downsize?

The new main residence nil-rate band will still apply if someone downsizes or ceases to own their own.

For example, let’s say you choose to downsize from a home worth £200,000 to one worth £100,000.  According to the Treasury, you can still benefit from the maximum allowance of £175,000 in 2020-21 if you leave the home and £75,000 of other assets to direct descendants.

The most expensive homes

There will be tapered withdrawal of the main residence nil-rate band for estates with a net value of more than £2 million. This withdrawal will be at a rate of £1 for every £2 the estate is valued over the £2 million threshold.

So for example, if your estate is valued at £2.1 million, it would lose £50,000 of the new allowance.

The charity discount

There's a reduced rate of Inheritance Tax of 36% for those who leave 10% or more of the net value of their estate to charity.

Your loved ones won’t be any better off if you go down this route – you’ll just ensure that some of your bill goes towards a cause you care about, rather than to the Treasury! 


We all have a £3,000 limit each year for gifts, which is completely free of Inheritance Tax. What’s more, if you don’t use your allocation this year, it can be carried over to next year, so you can hand over £6,000 to a loved one, tax-free!

You can also give away £250 to each of any number of people every year, though you can’t combine it with the £3,000 annual allowance. They are different exemptions.

Weddings also offer an opportunity to avoid Inheritance Tax. Parents can give their children £5,000 each as wedding gifts, £2,500 to grandchildren or great-grandchildren, or wedding gifts of £1,000 to anyone else. There are hoops to jump through though. The gift must be made (or at least promised) on or shortly before the day of the wedding.

You can leave cash to a political party free of tax too. However, not all parties qualify – they will need to have at least two members elected to the House of Commons, or one member where the party received at least 150,000 votes.

Finally, regular gifts that come out of your income (say a monthly payment to a family member) are also exempt so long as they do not affect your standard of living.

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Potentially exempt transfers

You can actually make additional gifts, above and beyond those detailed above, without the taxman trying to claim a slice. These are known as ‘potentially exempt transfers’.

All you have to do is live for seven years after making the gift. If you die within seven years of making the gift, and the total value of the gifts is valued at less than the Inheritance Tax threshold, then it will be added to the value of your estate. However, should the gifts be valued at more than the Inheritance Tax threshold, then either the person receiving the gift or the person managing your estate will need to pay Inheritance Tax on its value.

All simple so far, but since this is Revenue & Customs we are dealing with, there’s room for a bit of added complexity! Should you die between three and seven years after making the gift, and the value of the gifts is valued at more than the Inheritance Tax threshold, then the tax due is reduced on a sliding scale.

For a full run-down on the ‘taper relief’, check out this section of the HMRC website.

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Don't forget your life insurance

If you have a life insurance policy, should you die, the payout to your relatives may actually be subject to Inheritance Tax. That’s because the payout will be added to the value of your estate. What’s more, it can then take months before your family receives the cash. It’s all far from ideal.

However, you can have the policy written in trust. This basically separates the policy from the rest of your estate, which means that there will be no tax to pay. It also helps to speed up the process of your family receiving the cash.

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