1. Home
  2. Personal Finance Hub
  3. Inheritance Tax: Thresholds, Allowances and Relief Explained
Published 10 April 2024
Reading Time
5 minutes

Inheritance Tax: Thresholds, Allowances and Relief Explained

Inheritance tax is typically charged when someone leaves behind an estate worth more than £325,000. Understanding how inheritance tax works ensures your heirs will receive the money or assets you plan to pass on.

Inheritance Tax (IHT) is a tax paid on assets left behind after a person dies. It isn’t applied to everyone and will only be charged on estates worth over a certain amount. Here, we explain how Inheritance Tax works and who has to pay. 

What is Inheritance Tax?

Very simply, IHT is a levy on your ‘estate’ – the money or assets left behind after you die. 

Currently, IHT only applies to estates worth over £325,000. This is your tax-free allowance, known as the nil-rate band. If you are passing on your main home to a child or grandchild, then you can take advantage of an additional residence nil-rate band worth £175,000. This can bring the total tax-free allowance to £500,000 per person.

IHT is currently set at a rate of 40% on everything above the tax-free threshold.  However, if you leave at least 10% of the value of your estate (after deductions) to charity, the rate of IHT is lowered to 36%. 

Inheritance Tax is payable per estate rather than per person who inherits. That means you can’t reduce the bill by sharing it with more people and using up multiple allowances.

Who pays Inheritance Tax?

Inheritance Tax is paid from the estate of the deceased to HM Revenue & Customs (HMRC). This is carried out by the executor: the person who deals with the estate if there is a will in place. 

If you gift anyone assets worth over £325,000 within seven years of your death, the recipients of these gifts may need to pay Inheritance Tax too. 

However, Inheritance Tax isn’t usually paid if:

  • an estate is worth less than £325,000
  • Anything above £325,000 is left to a spouse, civil partner, a charity or a community amateur sports club.

What is the Inheritance Tax threshold?

The inheritance tax threshold for the 2024/2025 tax year is £325,000. This threshold is currently frozen until April 2028.

On top of the IHT standard nil-rate band of £325,000, there is also a residence nil-rate band that allows individuals to pass on up to £175,000 worth of eligible property without paying any tax. This applies in cases where the family home is passed on to the children, grandchildren, step-children or foster children of the deceased.

That extra allowance for homes means that any one person can effectively leave up to £500,000 without paying tax. And married or civil-partnered couples can also combine their allowances. This means married couples or civil partners who pass on their main residence as part of an inheritance may be able to leave up to £1 million in assets without incurring any IHT.

However the benefits of the ‘residential nil-rate band’ are reduced on the largest estates. For every £2 of estate value over £2 million, the allowance is reduced by £1. 

When do you pay Inheritance Tax?

HMRC has to receive any IHT payment by the end of the sixth month after a death. Interest will be charged if IHT is not paid in time.

If assets take time to sell, executors may choose to pay in instalments over a 10-year period, but again interest will be charged.

IHT can be paid out of the estate of the person who has died or from the recipient’s account – this will need to be discussed with the executor of the estate.

How to avoid inheritance tax

There are ways for people to maximise the amount they can pass onto their heirs and reduce the amount of IHT they pay. This can include giving money away before you die to reduce the value of your estate as well as specialist investments and life insurance policies.

Because this can be quite complicated, it’s an area where getting some qualified financial advice can be a sensible decision – and the earlier the better because it can take years to pass on wealth in the most tax-efficient way.

A qualified financial adviser looking at your specific circumstances will be able to help you plan your affairs so that your estate will eventually pass on as smoothly as possible.

Life insurance payouts can count towards the value of an estate, so – to hammer home the point – this really is an area where advice helps.

Do you have to pay inheritance tax on gifts?

Giving gifts is one way that some people can pass on wealth before their death, in order to avoid IHT.

For example, everyone is allowed to give away up to £3,000 a year without it being subject to any tax. This is your annual exemption – and this can be a way to pass on some of your estate in advance without having to worry about being taxed after you die.

There are a few other exemptions, including for wedding gifts, small presents and gifts from your surplus income which do not reduce your own standard of living.

If you want to make larger gifts, in excess of the gifting allowance, you can. However, whether or not these gifts become liable for IHT depends on how long the person making the gift lives. These are known as potentially exempt transfers and they only become wholly free of IHT seven years after the gift is made.

If you die within three years the full 40% IHT rate applies, but if the donor dies between three and seven years a gradually reducing rate is charged.

There are also strict rules around gifts. For example, if you give away an asset but continue to use it – like a car or a house – then it may still be considered part of your estate.

Meanwhile, gifts to charities are exempt from IHT.

With Inheritance Tax there is a lot at stake, so it’s important to plan early, discuss the options with your beneficiaries and take some specialist advice on your specific circumstances.

» MORE: How to start thinking about estate planning

Image source: Getty Images

Dive even deeper

NerdWallet UK Survey: Retirement and Emergency Funds are the Most Popular Savings Goals

NerdWallet UK Survey: Retirement and Emergency Funds are the Most Popular Savings Goals

New research by NerdWallet UK reveals that a majority of UK adults have clear savings goals and are taking action to reach them.

UK Lifestyle Debt Worries Statistics

UK Lifestyle Debt Worries Statistics

Almost a third of UK adults feel pressure to spend more than they can afford, using credit cards, loans or overdrafts. New research shows that debt worries still affect those earning above the average salary.

Childcare Funding is Changing This Year: Make Sure Your Family Doesn’t Miss Out

Childcare Funding is Changing This Year: Make Sure Your Family Doesn’t Miss Out

The government’s Childcare Choices scheme is expanding, so more families stand to benefit from 15 or 30 hours funded childcare. But accessing what you’re entitled to isn’t always straightforward. We explain how to claim what you’re eligible for.

Back To Top