Only a small percentage of estates are large enough to meet the inheritance tax (IHT) threshold of £325,000 in the UK. However, IHT is important to consider when writing a Will so that any potential tax liable to be paid is accounted for in the financial plans.
This page will guide you through what you need to know about the inheritance tax threshold, the inheritance tax rate, and how to go about valuing the estate.
No inheritance tax is due to be paid on money or possessions left to a spouse. Your spouse can also inherit your tax-free allowance if you leave everything to them. This would allow them to pass on up to £650,000 tax-free.
Inheritance Tax Threshold in the UK
The inheritance tax threshold in the UK is £325,000, above which tax may need to be paid. This figure takes into account a person’s whole estate – which is any money (cash and in the bank) saved, the valuation of any property, the valuation of possessions, and the value of any gifts made in the 7 years before death.
All people in the UK are entitled to a tax-free inheritance tax allowance of £325,000. This is also known as the ‘nil-rate band’. This means that if a person’s total estate is valued at being lower than £325,000, they do not need to pay inheritance tax. If the value of a person’s estate is estimated as being greater than £325,000, they will need to pay some inheritance tax.
People that pass property on to their children or grandchildren can benefit from a larger tax-free inheritance tax personal allowance. This extra allowance is £175,000 – taking the total tax-free personal allowance to £500,000 for an individual. Therefore, Inheritance tax on property passed on to descendants is only applied when the total estate is valued at greater than £500,000.
Valuing the estate
In order to work out how much inheritance tax to be paid, you need to be able to estimate the value of a person’s estate. Below is a 3-step plan for estimating the value of the estate.
Step 1: List and value assets
Make a list of all of the deceased's assets. This will include all of their money and their possessions. It also includes any payouts upon death e.g. from life insurance. Estimate the sale value of these assets on the open market.
Step 2: List and value joint assets
You also need to list and value any joint assets. These are assets that the deceased shared with another person e.g. a property bought in both persons' name. Estimate the sale value of these assets on the open market - then divide that value by 2.
Step 3: List and value gifts
Gifts made in the 7 years before a person's death also need to be considered in the valuation of the estate. Monetary gifts are easy to value. Gifted possessions should be valued based on an estimate of their sale value on the open market.
The rules surrounding inheritance tax paid on gifts are more complicated. Some gifts are exempt from tax, and the inheritance tax varies based on how many years ago the gift was made. Find out more from our guide to Inheritance Tax and Gifts.
Inheritance Tax Rates in the UK
The standard inheritance tax rate in the UK is 40%. This 40% rate is only taxed on the sum of the estate that is above the £325,000 threshold (or £500,000 if property is left to a child or grandchild).
Here is an example to illustrate. Let’s say that your parent leaves behind an estate valued at £400,000. This is £75,000 above the £325,000 threshold, so they will have to pay 40% tax on the £75,000 (the amount above the tax threshold). Therefore, they will be taxed £30,000.
The inheritance tax rate regarding gifts is slightly more complicated.
The IHT rate on gifts made between 3 and 7 years before the death are taxed at less than the standard 40%. Gifts made in this period, (above the inheritance tax threshold), are taxed on a sliding-scale. This is known as inheritance tax ‘taper relief’. You can learn more from our guide to Taper Relief, which includes example monetary scenarios.
The 40% standard IHT rate can be reduced to 36% if you donate 10% or more of your estate to charity. Find out if you are eligible for the reduced rate from GOV.UK
Inheritance tax threshold and rates FAQs
Who pays the inheritance tax?
Inheritance tax is paid out of the money left in the estate of the deceased.
The person (or people) responsible for organising the payment is the person dealing with the estate. When somebody has a Will, this person is referred to as the 'executor'.
Is there inheritance tax on money inherited by a spouse?
No, there is not inheritance tax on the estate (including money) inherited by a spouse.
Do I have to pay inheritance tax on property left to a family member?
Whether or not you have to pay inheritance tax on property left to a family member depends on how much the property is worth, and which family member.
In the tax year 2020/21 there is a tax-free property allowance of £175,000 on top of the regular tax-free allowance of £325,000. This means that up to £500,000 can be passed on tax-free if a property is being passed on to direct descendants. However, if the value of the estate - including the value of the property being passed on - is greater than £500,000 then inheritance tax will still need to be paid.
Do I have to pay inheritance tax on a property left to a friend?
Yes, you would have to pay inheritance tax on a property left to a friend, if the value is above the tax-free threshold of £325,000.
The additional IHT property allowance only applies to property passed on to a direct descendant (child or grandchild). The IHT property allowance would therefore not apply to a property left to a friend, or e.g. a sibling or cousin.
Does a person who has received a gift have to pay inheritance tax?
In most cases, no. The inheritance tax that may be due on a gift prior to the gift-giver's death will usually be paid out of the available assets. HMRC will make contact if somebody needs to pay IHT on a gift that they received. This is usually only if the estate cannot or does not pay the tax due.