Death:
Making best use of your nil rate band

You have one nil rate band, currently �285,000. To understand how to use it effectively you need a basic understanding of how inheritance tax is charged.

How inheritance tax is charged

Inheritance tax is chargeable on a cumulative 7-year basis.

Lifetime gifts will be either:

Exempt - as explained in Exemptions and Reliefs

Potentially exempt - provided you survive for a period of 7 years

Chargeable - most commonly transfers into a discretionary trust.

If the cumulative total of chargeable gifts exceeds the nil rate band there is an immediate charge to inheritance tax at the lifetime rate of 20% (half the death rate of 40%). The charge to inheritance tax on death is based on the value of the estate at death and any lifetime gifts within the previous 7 years. If you make lifetime gifts you may therefore not have the full nil rate band available on your death.

For example:

Mr Smith died on 1 June 2005 with an estate worth �250,000. On 1 November 2003 he had given �200,000 to his son (a potentially exempt transfer with no inheritance tax payable at the time). His only other gift was a transfer of �150,000 to a discretionary trust on 1 December 1996 (a chargeable transfer but as it was below the nil rate band at the time no inheritance tax was payable when the gift was made).

When Mr Smith died, the potentially exempt transfer became chargeable to inheritance tax as it was made within 7 years of death. There is no inheritance tax charge on the transfer to the trust as it was more than 7 years before death but, as it was within 7 years of the gift to his son, it will be relevant to the calculation of the inheritance tax on the potentially exempt transfer to Mr Smith's son.

The inheritance tax payable on death is as follows:

On the gift to Mr Smith's son on 1 November 2003

Chargeable gifts made in the previous 7 years (gift to trust):	�150,000
Gift to Mr Smith's son:	�200,000
Cumulative total:	�350,000
Inheritance tax on
�150,001 to �275,000 at 0% (balance of nil rate band):	� nil
�275,001 to �350,000 at 40%:	�30,000

On the value of Mr Smith's estate at 1 June 2005

Chargeable gifts made in the previous 7 years (gift to son):	�200,000
Value of estate:	�250,000
Cumulative total:	�450,000
Inheritance tax on:
�200,001 to �285,000 at 0% (balance of nil rate band):	� nil
�275,001 to �450,000 at 40%:	�70,000

The total inheritance tax payable on death is �100,000 (�30,000 + �70,000)

NB In the preceding examples, the nil band rate used was the current rate at that time - �275,000.

This 7 year rule can provide some planning opportunities provided your gifts start early enough to ensure that you have as much chance as possible of an adequate number of 7 year cycles before you die.

Using your nil rate band efficiently

Making best use of your nil rate band involves careful planning for lifetime gifts and detailed consideration of how you wish to distribute your estate on your death.

Set up a plan and timetable for chargeable gifts into discretionary trusts or potentially exempt transfers to take advantage of them 'dropping out' after 7 years.
Transfer assets between spouses to ensure each can use as much of their respective nil rate bands as possible (but be aware of any income tax and capital gains tax implications of such transfers to ensure no adverse consequences)

If appropriate avoid leaving assets in your will to your spouse where these assets qualify for other exemptions and reliefs (such as business assets or agricultural land)

Try to ensure you leave assets up to the nil rate band in your will other than to your spouse (a discretionary trust set up under your will can be a flexible way of doing this).

Consider Mr Smith in the above example. If he had delayed the gift to his son by a month, to December 2003, it would have been made over 7 years after the gift to the trust. This ensures that the gift to the trust does not have to be taken into account when the gift to Mr Smith's son (a potentially exempt transfer) becomes chargeable on his death on 1 June 2005:

The inheritance tax payable on death would be as follows:

On the gift to Mr Smith's son on 2 December 2003

Chargeable gifts made in the previous 7 years:	� nil
Gift to Mr Smith's son:	�200,000
Cumulative total:	�200,000
Inheritance tax on:
�200,000 at 0% (below the nil rate band):	� nil

On the value of Mr Smith's estate at 1 June 2005

Chargeable gifts made in the previous 7 years (gift to son):	�200,000
Value of estate:	�250,000
Cumulative total:	�450,000
Inheritance tax on:
�200,001 to �275,000 at 0% (balance of nil rate band):	� nil
�275,001 to �450,000 at 40%:	�70,000

The total inheritance tax payable on death is �70,000, a saving of �30,000 just by ensuring a full 7 year gap between gifts.

NB In the preceding examples, the nil band rate used was the current rate at that time - �275,000.

It is often the case that the most significant asset in your estate is the family home (or a share in it). Inheritance tax planning in connection with the family home is very limited if it is intended that you and your spouse will live in the home for your respective lifetimes. There are, however, some options available which are discussed in The family home .