The taxman is set for another record year when it comes to inheritance tax (IHT).
HMRC collected £6.3 billion in the first nine months of the tax year. This figure is up more than 10% compared to the same period a year ago.
IHT receipts have been continually climbing in recent years. Last year, the government collected a record £7.5 billion in inheritance tax. With three months still left to go before we have the final figures for 2024/25, HMRC will almost certainly exceed its previous record this year.
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Frozen tax-free allowances (known as the nil-rate bands) and rising asset values are largely to blame. This effect is known as fiscal drag.
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The main asset many families pass on is their home, and UK house prices have risen considerably since the nil-rate bands were last increased.
These thresholds are set to remain frozen until 2030 after an announcement made in the Autumn Budget.
This makes it “almost inevitable that IHT receipts will continue to rise every month,” says Jonathan Halberda, specialist financial adviser at Wesleyan Financial Services.
We can also expect “a jump in the number of estates that will be caught in the IHT net in April 2027, when an IHT exemption for money left in pensions on death is closed,” he adds.
Frozen nil-rate bands
Under current rules, you can pass on an estate worth up to £325,000 before an inheritance tax bill is due, with an additional £175,000 allowance for those leaving the family home to their children or grandchildren.
These allowances are known as the regular and residential nil-rate bands.
The £325,000 allowance has been at this level since 2009, while the £175,000 residential nil-rate band was phased in between 2017 and 2020.
Since April 2020, when the residential nil-rate band was last increased, UK house prices have increased by almost 24% on average.
Meanwhile, the Bank of England’s inflation calculator suggests that assets valued at £325,000 in 2009 (when the regular nil-rate band was last increased) would be worth almost £509,000 today.
In other words, the regular nil-rate band is now only worth around 64% of its original value.
How to cut your inheritance tax bill
Thankfully there are some steps you can take to reduce your inheritance tax bill. These include marrying your spouse if you are planning to leave assets to them or gifting assets to loved ones within your lifetime.
There are strict rules in place to prevent tax evasion, though, so make sure you read up on these if you are planning to give assets away before you die.
Anyone can give up to £3,000 of their assets to loved ones each tax year without that sum becoming liable for IHT. If you didn’t use the allowance last year, you can combine it and pass on £6,000.
There are also some special rules in place for occasions like weddings, which we delve into in further detail in our explainer on IHT rules and gifting.
Furthermore, if you can prove the gift came from “surplus regular income” rather than capital, you can give away as much as you like. However, you will need to be able to prove this, and one of the rules is that the gift must not impact the giver’s quality of life.
Anything above this amount is classified as a potentially-exempt transfer. If you die within seven years of making the gift, IHT will be payable on a sliding scale known as taper relief.
“If you’re worried about inheritance tax, and you were planning to give your family gifts at some point, it’s worth considering the timing,” says Helen Morrissey, head of retirement analysis at Hargreaves Lansdown.
“It’s vital not to give away too much too soon as it could leave you struggling later on,” she adds.
Furthermore, you should think particularly carefully before giving away the family home. Some families consider transferring the title of their property to their children before they die but this won’t necessarily count as a valid gift if you continue to live in the house afterwards.
“If you continue to derive a benefit from the property without paying full market value for the benefit you are continuing to receive (e.g. you continue to live there rent-free), it will be treated as ineffective for IHT purposes,” says Philip Sillars, a solicitor at London law firm Winckworth Sherwood.
Sillars also points out that this leaves families vulnerable in the event of bankruptcies, fallings-out, or divorce.
