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What the residence nil rate band means for you

This information has been prepared by Sykes Anderson Perry Limited as a general guide only and does not constitute advice on any specific matter. We strongly recommend that you seek professional advice before taking action. No liability can be accepted by us for any action taken or not taken as a result of any information or advice given or omitted.

The introduction of the residence nil rate band means that the amount of inheritance tax payable on a person’s estate can be reduced in some circumstances and provided that certain conditions are met.

Inheritance tax nil rate band

The inheritance tax nil rate band or standard nil rate band is the amount of a person’s estate on which no inheritance tax is payable. This is currently £325,000. Inheritance tax is then charged on the estate value above this amount at 40%.

If a person is married (or in a civil partnership) and their assets pass to their spouse(or partner) on death, then the nil rate band for the first spouse (or partner) who dies is not used and therefore their £325,000 becomes transferable, known as the transferable nil rate band. This means that when the second spouse (or partner) dies their estate will benefit from both their own nil rate band and also the transferable nil rate band meaning they have a total nil rate band of £650,000.

Residence nil rate band

If the residence nil rate bandis available, it increases the amount of a person’s estate on which no inheritance tax is payable.This means that the inheritance tax payable on the value of theestate may be reduced. The residence nil rate band applies when a residence is passed on death to direct descendants. The individual’s estate also needs to be above the applicable nil rate band for that year in order to be able to benefit.

The residence nil rate band is only available for one residential property. Where more than one property qualifies, the personal representatives of the deceased person’s estate will decide which property will be the property to which the residence nil rate band applies.

Although the residence nil rate band applies specifically to a property, practically, as inheritance tax is payable by the estate before it is distributed to the beneficiariesand not payable by the beneficiaries after the estate is distributed as is the case in some other countries such as France and Spain, the residence nil rate band will have the effect of reducing the amount of inheritance tax payable on the estate as a whole.

Amount

The amount of the residence nil rate band is as follows:

  • £125,000 for tax year 2018-2019;
  • £150,000 for tax year 2019-2020;
  • £175,000 for tax year 2020-2021; and
  • it will then increase in line with the Consumer Price Index each year.

Despite the reduction in inheritance tax applying to the estate as a whole, the amount of the residence nil rate band that can be claimed cannot exceed the value of the home. For example, if the person dies in the tax year 2020-2021 and the residence is worth £125,000, only £125,000 of the residence nil rate band can be used (of £175,000 for that tax year) assuming the other conditions are met.

What qualifies?

Where the deceased owned a home (it can be that they owned either the whole of the property or part of the property) and passes this to direct descendants on death the following must be satisfied:

Home

The home must have been lived in by the deceased at some point although it does not have to be the deceased person’s main residence.

Inheritance

The home must be inherited by some legal means. For example, by passing under a Will either as a gift or in the residuary estate or, if the deceased dies without a Will, then by passing under the rules of intestacy.

Direct Descendants

The persons inheriting the property must be lineal descendants of the deceased. This means they need to be children orgrandchildren or other lineal descendants. This includes stepchildren and foster children but does not include children of a person with whom they are cohabiting. It also includes spouses and civil partners of those who qualify as lineal descendants.

Downsizing or moving into care homes

If the deceased person moved into a care home or sold their property and downsized it may be that the property that they sold can still qualify. This is helpful in that it allows a person’s estate to still benefit from the residence nil rate band even if the property is no longer owned at the time of the deceased’s death.

In order to qualify:

  • the property that has been sold would need to have qualified for the residence nil rate band had it still been owned at the time of death;
  • the property must not have been sold before 8 July 2015; and
  • the property or other assets that were bought by way of replacementwould need to form part of the deceased person’s estate and pass to direct descendants.

Date of death

The residence nil rate band is only available for deaths on or after 6 April 2017.

Similarlyto the standard nilrate band, if one spouse (or civil partner) dies and their estate passes to their spouse (or partner), the residence nil rate band is not usedand therefore this transfers to the survivor and can be used on their death, meaning two lots of the residence nil rate band are available. This is the case even if the first death occurred before the 6 April 2017as long as the second death occurs after this date.

Higher Value Estates

If the deceased person’s estate is valued at over £2,000,000 then a reduction in the available nil rate band will apply. Thismeans that £1 will be taken off the available residence nil rate band for every £2 that the estate is worth over £2,000,000, known as the tapering threshold.

It is important to consider that assets on which inheritance tax would not normally be payable may still contribute towards the £2,000,000 threshold. For example, assets which are relieved or exempt from inheritance tax such as specific gifts left to charities under a Will or assets which benefit from business property relief, still form part of the deceased person’s estate and therefore still go towards the threshold.

Considering this from the opposing perspective, where the deceased person gave a lifetime gift but died within 7 years, that gift becomes subject to inheritance tax. However,as it passed during the deceased’s lifetime, it would not form part of the estate and thus not contribute towards the threshold for tapering.

Trusts

If the home is put into a trust, whether theresidence nil rate band will be available woulddepend on the type of trust. In simple terms, for a home in a trust to be able to still benefit from the residence nil rate band the trust will need to be for the benefit of direct descendants. For example, where a trust gives a child an absolute interest or an interest in possession in the home the residence nil rate band will still be available. However, if the property is put into a discretionary trust this will not be the case and so the residence nil rate band will not be able to be used.

The rules relating to trusts are complex, so anyone considering this as an option should seek legal advice.

Overall

In light of the above it is clear that the residence nil rate band will be an effective tool for reducing inheritance tax liability on a person’s estate. However, there is a need for effective estate planning in order to ensure a person’s estate fully benefits from what is available.

March 2019

Alice Williams
Trainee Solicitor