Eight ways to reduce your IHT bill

We look at ways to reduce your IHT bill as inheritance tax receipts continue to hit record highs.

Family on a sofa
(Image credit: © Getty Images)

Inheritance tax (IHT) receipts could hit a record-breaking £8bn in 2023, with receipts for June 2023 reaching the highest monthly total so far. The Treasury raked in £3.2bn in IHT in the five months between April and August 2023, some £300m more than in the same period a year earlier.

In June, it received a record £795m in death taxes. "This year’s take is well on course to break new records and could come close to £8bn,” said Rachael Griffin, tax and financial planning expert at the wealth manager Quilter.

Often called the most hated tax in Britain, there have been reports the government is considering reducing the tax with the end goal of scrapping it altogether. Such a move is likely to be appealing to voters ahead of a general election. For now, IHT represents a burden on an ever-growing number of families and an increasingly reliable cash cow for the Exchequer. It has collected 10% more from IHT this tax year, compared to the same period in 2022.

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Laura Suter, head of personal finance at the investment platform AJ Bell, said: “The combination of rising house prices, rising investment markets and frozen tax-free bands mean more and more estates are paying inheritance tax. Some people could even be due an IHT refund as house prices slide."

The Office for Budget Responsibility (OBR) forecasts that £38 billion will be raised over the next five years and that in 2027/8 IHT receipts will reach £8.4 billion. In the 2022 Autumn Budget, Chancellor Jeremy Hunt said IHT rates and thresholds would be frozen until 2028, having remained at the same level since 2009.

IHT is levied on estates worth more than £325,000 – although you may benefit from a bigger allowance if you're leaving everything to your spouse or civil partner, or the family home to a direct descendant. Everyone has a £325,000 tax-free threshold, known as the nil-rate band.

We outline seven tips to potentially reduce your IHT bill.

Ways you can reduce your IHT bill

Around one in 25 deaths results in an IHT liability, according to AJ Bell. But with IHT at a rate of 40%, it can eat into the money you leave behind, so taking action now is essential.

It may be worth speaking to a financial planner for some of the tips we suggest, because of the complexities involved. You can find one at unbiased, VouchedFor or Wayfinder, which is run by the Chartered Institute for Securities & Investment (CISI).

1. Make a will

Making a will is the first step you should take. Without it, your estate will be shared according to a set of pre-determined rules, known as intestacy. That means your loved ones may not receive what you want them to inherit and the taxman might end up with more than his fair share.

2. Take advantage of gift allowances

This is the easiest way to pass your assets onto your loved ones and reduce – or eliminate – your IHT liability. But there are some things to consider.

  • Anyone can give up to £3,000 of their assets to loved ones each tax year without that sum becoming liable for IHT, no matter when they die. If you didn’t use the allowance last year, you can combine it and pass on £6,000.
  • Gifts of £5,000 to children made in advance of a wedding are also protected from IHT; the figure drops to £2,500 for grandchildren.
  • You can make further gifts as you please, but, if you die within seven years of making the gift, IHT will be payable on a sliding scale; if you die three to four years after giving the money, the IHT rate lowers to 32%. At six to seven years it falls to 8%.

The main purpose of a pension is to provide you with income in retirement. But you can also nominate beneficiaries should you pass away before you receive it. The nominations have to be submitted directly to your pension provider. IHT isn’t normally payable on personal pensions.

Sean McCann, chartered financial planner at the insurer NFU Mutual, said: “Any money left in your personal pension on your death can normally be left free from inheritance tax.

“Under current rules, if you die before age 75 the beneficiaries can take lump sums or income free of income tax. If you die after age 75, any income or lump sums will be taxable on the beneficiaries.

“From an inheritance tax perspective, for those that can afford to, it can make sense to fund spending through ISAs or other savings and investments, which are subject to inheritance tax, before accessing your pension.”

4. Invest in AIM shares

AIM is a branch of the London Stock Exchange that allows investors access to smaller companies.

“Investing in some AIM shares also comes with IHT benefits, because many stocks on London’s junior market qualify for Business Property Relief,” says Laith Khalaf, head of investment analysis at AJ Bell. However, not all AIM shares qualify and you must hold the shares for at least two years to be exempt from IHT.

5. Mind your ISA

One of the great IHT threats arguably comes from where you least expect it: your ISA. Although tax-efficient in so many other ways, ISAs form part of a person’s taxable estate along with other savings, investments and possessions, so up to 40% of it could be eaten up by inheritance tax rather than passed to your loved ones.

As an alternative, you could invest in certain AIM shares within your ISA. Most AIM shares, as we mentioned above, qualify for Business Property Relief, so provided you hold them on death and for at least two years they should be free of IHT.

6. Set up a trust

Setting up a trust to hold your assets is another option to consider, which can be done via a financial planner.

“The benefit is that whoever you appoint as the trustee can control the assets, rather than them being passed onto the beneficiaries right away,” says Khalaf. “This might be useful if you are concerned about gifting assets to a relative who is perhaps not renowned for their financial prudence, or perhaps to young grandchildren.

“Trusts can be expensive to run and subject to tax charges, which together with their complexity generally makes them worthwhile in only a few circumstances.”

7. Take out an insurance policy

You can purchase an insurance policy that covers IHT liability. This should be written in trust, and you should seek help from a financial adviser to do so.

“This route offers you peace of mind that your beneficiaries won’t struggle with a huge inheritance tax bill when you die, but you are effectively paying at least part of that bill while you are alive through your monthly premiums, which can be substantial,” says Khalaf. “If you die quite young, you’ll probably get a good deal from the insurance policy, but if you live to a ripe old age, you won’t.”

8. Donate to charity

If you donate at least 10% of your estate to charity, you could get a 4% discount on your IHT rate for the rest of your estate, lowering it from 40% to 36%. 

Use the government IHT calculator to work out how your estate could qualify for the reduced rate.

Nicole García Mérida

Nic studied for a BA in journalism at Cardiff University, and has an MA in magazine journalism from City University. She joined MoneyWeek in 2019.

With contributions from