Inheritance Tax – Nil Rate Band and Transferable Nil Rate Band
What is inheritance Tax?
Inheritance tax (IHT), sometimes referred to as Estate tax or Death duty tax, is a tax that is paid at a percentage rate on the value of a deceased’s person’s estate that is over their inheritance tax allowance.
What is a Nil Rate Band?
A Nil Rate Band (NRB) is the amount up to which there is no Inheritance Tax payable on a person’s Estate. The current Nil Rate Band is set at £325,000. This means estates that have a total value of less than £325,000 pass tax free. Estates where the total value is more than £325,000 are liable to pay Inheritance tax at rate of 40% on the value of the estate that is over the inheritance tax allowance.
An example of inheritance tax liability;
Person A’s Estate has a Total Value of £250,000
Their estate is below their IHT allowance of £325,000 and therefore is not taxable.
£250,000 of their Nil Rate Band is used, the remaining £75,000 goes unused.
Person B’s Estate has a Total Value of £400,000
Their entire NRB of £325,000 is used and there is a remainder of £75,000.
This £75,000 is liable for Inheritance tax which is charged at 40%.
40% of £75,000 is £30,000. Therefore Person B’s Estate will pay £30,000 to HMRC in inheritance tax.
When does a Nil Rate Band become Transferable?
There are occasions where some or all of a person’s Nil Rate Band goes unused. A person’s unused Nil Rate Band can be transferred to another person’s estate, increasing their inheritance tax threshold and reduce or eliminate the second estates inheritance tax liability.
As with the example above, Person A does not use all of their Nil Rate Band but Person B’s estate could be spared inheritance tax if they were to use Person A’s remaining allowance.
There is no inheritance tax between spouses or civil partners (although there are sometimes exceptions to this). This means that the surviving spouse does not have to pay inheritance tax if they inherit their partner’s estate. It also means that their partners Nil Rate Band was not used upon their death and would be available to be transferred and used to increase the inheritance tax threshold upon the second death.
A Nil Rate Band can only be transferred to a spouse or civil partner. It can also only be transferred if there is unused allowance available to transfer. The amount available to transfer is dependent how the estate first estate was distributed.
If Spouse B inherited all of Spouse A’s estate, the entirety of Spouse A’s Nil Rate Band (£325,000) would be eligible to transfer to Spouse B upon their death and used to reduce or eliminate the Inheritance Tax on Spouse B’s Estate.
An example of a transferable Nil Rate Band
Spouse A leaves everything to Spouse B.
Spouse B’s estate at their death has a total value of £400,000.
Spouse B’s NRB is used leaving a remainder of £75,000.
Spouse A’s unused NRB is transferred to Spouse B creating a new upper tax threshold of £650,000 (Spouse B’s £325,000 + Spouse A’s £325,000).
Spouse B’s estate is now below the combined inheritance tax threshold and is no longer liable to pay tax.
When is a Nil Rate Band Transfer not possible?
A Nil Rate Band cannot be transferred to just anyone, as stated above it can only be transferred between married couples and civil partners.
An estate is liable for inheritance tax when being passed to anyone other than a spouse or civil partner. This means the value of a person’s estate that they leave to anyone other than their spouse of civil partner will use their Nil Rate Band allowance. Depending on how much allowance was used on their death will determine how much of their allowance can be transferred on the second persons death.
An example of a partially transferable Nil Rate Band
Spouse A has an estate of £250,000 and leaves £50,000 to Child 1 in their will and the remaining £200,000 to Spouse B.
The £200,000 to Spouse B will pass tax free and will not use Spouse A’s NRB allowance.
The £50,000 left to Child 1 will be taken from Spouse A’s NRB allowance leaving a transferable amount of £275,000.
On Spouse B’s estate there will be a upper tax limit of £600,000 (spouse B’s £325,000 + Spouse A’s unused £275,000)
An Example of a non-transferable Nil Rate band
Spouse A’s estate has a total value of £400,000. Spouse A leaves everything to Child 1.
Spouse A’s entire Nil Rate Band is used (because the estate is passing to Child 1 rather than Spouse B) leaving a remainder of £75,000.
As shown in the very first example Spouse A’s Estate would be liable to pay £30,000 (40% of £75,000) in Inheritance tax.
There is no remaining Nil Rate Band allowance available to be used to increase the inheritance tax threshold on Spouse B’s estate.
How do transfer your Nil Rate Band?
In order to transfer a person’s unused Nil Rate band an application must be made to HMRC and the Probate office. This application can be made using one of two forms.
The first being the IHT 217 “Claim to transfer unused nil rate band for excepted estates”. This form is used to transfer an unused Nil Rate Band to a deceased’s estate that is not liable for inheritance tax. This means that the estate must have a total value of less than combined IHT allowance once the transfer has been made.
The second is the IHT 402 “Claim to transfer unused nil rate band”. This form is used to transfer an unused Nil Rate Band to a deceased’s estate that is liable to pay inheritance tax even after the transfer has been made.
Once the applicable form has been completed it is sent to the probate office along with the corresponding PA1 form, IHT form, signed oath, application fee and any other relevant documents.