Inheritance tax: Millions missing out on ‘significant tax advantages’ & risking large bill

Inheritance tax explained by Interactive Investor expert

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Death is not a topic many couples like to discuss, particularly when they believe they have many years left. Sadly though, it is something they need to talk about with each other especially if they believe themselves to be in a committed relationship. Few cohabiting couples would consider the act of living together to be a potential source of vulnerability, but in regards to inheritance tax, it is. If a couple is not married or in a civil partnership then they do not have the same legal rights over property, money or other assets such as pensions as those who are.

So if one partner dies then the other could be placed in a financially vulnerable position as under inheritance tax rules, they are not classed as direct family.

The total number of cohabiting couples in 2020 was around 3.5 million – up from 1.5 million in 1996, according to a House of Commons Library briefing paper.

The tax liability on estates usually has to be paid in six months which means that surviving partners may be forced to sell their home whilst they are grieving.

Many believe the myth that a “common-law spouse” will have the automatic rights over a person’s property and assets however this is not true.

A common-law spouse is a person who lives with another and is in a relationship but are not married or in a civil partnership.

However, there is no legal definition of living together.

Even in modern times, being married or in a civil partnership is the most beneficial position to be in when it comes to inheritance tax.

All gifts left to a spouse or civil partner in a will, or inherited under intestacy rules are free from inheritance tax.

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This means that couples can leave an entire property to their surviving partner without any charge.

There’s no such exemption however for couples who are merely cohabiting.

Currently, the inheritance tax threshold or nil rate band has been frozen at £325,000 since 2009.

This threshold also applies to every individual.

If an estate’s value is below this then a person does not need to pay inheritance tax on it. If over, it will be taxed at a rate of 40 percent.

On top of the main allowance, the is a transferable main residence allowance which sits at £175,000.

This lets people leave significantly more if the estate includes a property that is being left to direct descendants such as children, grandchildren and stepchildren.

The allowance essentially raises the IHT-free allowance to £500,000 for most people.

This means that married couples, who jointly own a property, can leave it to their children as the total inheritance tax exemption will be £1million.

A surviving partner can also apply the person’s unused nil-rate band to their estate.

This means a surviving partner could essentially double their threshold if they meet further criteria.

Alex Davies, CEO and Founder of Wealth Club said: “Unmarried couples’ homes could be subject to inheritance tax when one partner dies.

“Cohabitants need to put real thought into how they address this problem.

“While marriage isn’t for everyone it can offer significant tax advantages and married couples can leave everything to their surviving spouse without them having to pay inheritance tax.”

Cohabiting couples are recommended to write a detailed will which explains what the deceased wants when they die, however, this will not protect the partner left behind from an inheritance tax bill.

Discussions between the partners should be made in order to clearly understand the position they are in and what can be considered to be done about it.

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