Passing on property – how the residence nil-rate band can help you cut your tax bill

10th June 2021

In the 2017/18 tax year, almost 4% of all deaths in the UK resulted in an Inheritance Tax (IHT) charge. It’s commonly considered one of the UK’s most hated taxes, with the Treasury raising £5.2 billion from the duty in the 2019/20 tax year.

With good planning, it is possible to mitigate IHT, and reduce the bill your beneficiaries face when dealing with your estate on your death. You can ensure that more of your wealth passes to the people you want, rather than into the hands of HMRC.

One of the ways that you can reduce a potential IHT liability is by making use of the “residence nil-rate band” – a new exemption introduced by the government in April 2017.

But what is the residence nil-rate band? How does it work? And how can it help you to pay less tax? Read on for answers to these questions and more.

An additional IHT exemption

Every individual in the UK benefits from an IHT “nil-rate band”. If the value of your estate is below the nil-rate band – £325,000 in the 2021/22 tax year and frozen at this level until 2026 – then no IHT will be payable on your estate when you die.

In addition to this, the government introduced an initial residence nil-rate band in April 2017. Originally set at £100,000, the value of this exemption has increased year-on-year and stands at £175,000 in the 2021/22 tax year (again, frozen at this level until 2026).

In simple terms, the residence nil-rate band means that the threshold at which an estate pays IHT is increased by £175,000 if an individual leaves their home to their children or other direct lineal descendants.

So, if you own your home and you want to pass it to your children, you can utilise the residence nil-rate band in addition to your normal nil-rate band. This means that no IHT will be due if the total value of your estate is below £500,000.

The rules state that there can only ever be one “qualifying home” in an estate. Of course, you may have more than one property that either is, or has been, your home. In such an event, your legal representatives can nominate just one of those houses.

The property must be “closely inherited”

For the residence nil-rate band to apply, the home must be “closely inherited”. This means that the property must be inherited by:

• Your child
• A remoter lineal descendant (such as your grandchild, great grandchild, or other child of a child of a child, etc.)
• A step-child, foster child, or child for whom you were appointed by a court order as a guardian or special guardian if that appointment took effect when the child was under the age of 18.

An example of how the residence nil-rate band is applied

Susan dies in the 2021/22 tax year with an estate valued at £480,000. She leaves her estate to her children.

As the remaining value of Susan’s estate is below the nil-rate band of £325,000, no IHT will be payable.

It’s useful to remember that the residence nil-rate band applies to an entire estate on death. It is not an exemption or relief on the home itself, but instead reduces the total IHT charge on death.

Passing on your exemption to your spouse or civil partner

If the residence nil-rate band has not been fully utilised on the estate of the first to die of a married couple or civil partnership, the unused part can be transferred to the second estate. This is called the “brought forward allowance”.

So, where the full entitlement to brought forward residence nil-rate band exists, an estate can qualify for a total residence nil-rate band of £350,000.

If you add this to a couple’s individual nil-rate band, an estate could be valued at £1 million and no IHT would be due.

Here’s an example.

Clive died in May 2021 and left his entire estate of £600,000 to his wife, Stephanie.

Stephanie died in June 2021 and left all her estate, including a home worth £400,000 to her daughter, Imogen.

When Stephanie died, the maximum available residence nil-rate band is £175,000.

Her executor makes a claim to transfer the unused residence nil-rate band from Clive’s estate.

So, the total available residence nil-rate band for Stephanie’s estate will be £350,000 (£175,000 + (transfer of 100% x £175,000)).

The £2 million residence nil-rate band taper

If the value of an estate is more than £2 million, the residence nil-rate band is reduced by £1 for every £2 of value by which the estate value exceeds the £2 million threshold.

In the 2021/22 tax year, and assuming a default residence nil-rate band of £175,000, there will be no residence nil-rate band if the value of an estate exceeds £2.35 million (or £2.7m including any brought forward allowance).

Here’s an example.

Roger died in the 2021/22 tax year. He has never been married.

His default residence nil-rate band is £175,000.

The value of Roger’s estate is £2.5 million so, due to the taper, his adjusted residence nil-rate band is £0.

The residence nil-rate band is helping individuals to save tax

The introduction of the residence nil-rate band has helped many estates to eliminate or reduce their IHT liability.

Official figures show that the total number of UK deaths that resulted in an IHT charge in 2017/18 fell for the first time since 2009/10. In 2017/18 there were 24,200 such deaths, a decrease of 3,900 (14%) since 2016/17.

Figures show that, in 2017/18, 20,200 estates used the residence nil-rate band threshold, meaning that £3.1 billion of chargeable estate value was sheltered from an IHT charge as a result.

Get in touch

Using the IHT exemptions can be complicated, so it can pay to take specialist advice. If you’re worried about a potential IHT liability, please get in touch. Email info@depledgeswm.com or call 0161 8080200.

Please note

The Financial Conduct Authority does not regulate estate planning, tax planning or will writing. The above article is based upon of understanding of HMRC guidelines and legislation. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.