What is Inheritance Tax?

Inheritance Tax is a tax on the property and possessions of someone who has died (including houses, money and investments). Personal Representatives are responsible for ensuring this tax is paid.

Exemptions from Inheritance Tax

These types of gifts are generally exempt from Inheritance Tax: Gifts to a spouse or civil partner Gifts to registered charities Gifts to political parties Gifts to community amateur sports clubs

When might Inheritance Tax be payable?

In most cases a gift which is left to charity in a will won't be subject to Inheritance Tax. Inheritance Tax is usually payable above the £325,000 nil rate band allowance. The nil rate band is a threshold set by the government and anything up to this level is free of Inheritance Tax. Any legacy gift left to a spouse, civil partner, charity or community amateur sports club is exempt and does not use up this threshold. The allowance can be increased by a further £175,000 (the residence nil rate band), if a property is being left direct to a child (including adopted, foster or step-children) or grandchildren. Executors can use any unused allowances from a deceased spouse or civil partner to increase the threshold. This means a further £325,000 (nil rate band) and £175,000 (residence nil rate band) might be available to reduce the inheritance tax due. Work out and apply the residence nil rate band for Inheritance Tax - GOV.UK (www.gov.uk)

How to calculate Inheritance Tax

Unless there is a contrary intention in the will, Inheritance Tax (if due) will be payable from the non-exempt share of residue of the estate. The residue is the estate which is left after any pecuniary and specific gifts are made. This might not be the case if there are large pecuniary and/or specific gifts (which have been made "free of tax") and all or part of the residuary estate is left to charity. It might be necessary for all beneficiaries to bear the tax pro-rata (in proportion to their share). These calculations are called "grossing up" and "double grossing up". Inheritance Tax grossing up calculator – GOV.UK (www.gov.uk)

Grossing up and double grossing up

Grossing Up: Where there are non-exempt legacies which are left free of tax which exceed the nil-rate band, these will have to be grossed up for Inheritance Tax and, where the residue is left solely to charity, the tax burden will need to be paid from residuary funds before the charity receives its residuary gift. Inheritance Tax grossing up calculator – GOV.UK (www.gov.uk) Double Grossing Up: When there are non-exempt pecuniary and/or specific gifts and the residue is partly exempt and partly non-exempt, it will be necessary to perform double grossing up to calculate Inheritance Tax. The tax attributable to the non-exempt pecuniary and specific gifts will have to be apportioned between the whole residue; while the tax due on the non-exempt share of residue will be only on that part.

Maximising a legacy gift and reducing Inheritance Tax

If the amount gifted to charity in a will exceeds 10% of a taxable estate, the amount of IHT payable on the remaining estate may be reduced. Instead of the usual 40%, a rate of 36% may apply. This will reduce the tax paid from the estate before distribution of funds to beneficiaries. For example, if the estate is worth £1 million and the tax-free threshold is £325,000, the normal tax rate would be 40%. This would mean £270,000 in tax (40% of £675,000, which is the amount above the threshold). But if £150,000 is left to charity (which is more than 10% of the estate's value), the tax rate would reduce to 36%. On a £1 million estate with a tax-free threshold of £325,000, the tax would be £189,000 (£1 million minus £150,000 minus £325,000 X 36%). This saves £81,000 in tax. It's also possible for non-charitable beneficiaries to benefit from the reduced tax rate. In the example below, both the charity and other beneficiaries benefit from the reduced tax rate: Example 1: Estate: £1,325,000 Unused Nil Rate Band: £325,000 Taxable estate: £1,000,000 Gift to Macmillan: £80,000 Tax: £368,000 (£1,000,000 minus £80,000 x 40%) Available funds after charity gift and tax: £552,000 Example 2: Estate: £1,325,000 Unused Nil Rate Band: £325,000 Taxable estate: £1,000,000 Gift to Macmillan: £100,000 Tax: £324,000 (£1,000,000 minus £100,000 X 36%) Available funds after charity gift and tax: £576,000 The examples above are simplified and to ensure the 36% Inheritance Tax rate can be used, a basic calculation needs to be done on the different asset types that make up the estate (assets owned jointly, assets held in trust, all other assets). The gift to all charities must be at least 10% of the value of a specific part of the estate.

What is a Deed of Variation and how can it reduce Inheritance Tax payable?

There may be circumstances when the beneficiaries of an estate can change the way in which the estate is distributed. This is done by using a Deed of Variation which needs to be executed within two years of date of death. One of the reasons for doing this might be to trigger the reduced 36% Inheritance Tax rate by donating more of the estate to charity (to meet the 10% rule). This process is commonly used when people have died in quick succession, for example where a supporter leaves their estate to Macmillan (and this includes inheritance from someone else who died within the last two years). The executors of the first estate can vary the will to pay that inheritance direct to Macmillan. The charity exemption from Inheritance Tax can be used and the tax paid reclaimed. Tax relief when you donate to a charity: Leaving gifts to charity in your will - GOV.UK (www.gov.uk) HM Revenue & Customs: Inheritance Tax reduced rate calculator (beneficiahmrc.gov.uk)

1. There may be rare occasions when a will specifies that all beneficiaries share the burden of Inheritance Tax regardless of the type of beneficiary (whether exempt from Inheritance Tax or not). This situation requires a different ‘grossing up’ exercise to be carried out and more Inheritance Tax is generally payable as a result 2. Special Inheritance Tax reliefs may apply if you have business assets or agricultural property. These reliefs mean that you may pay less Inheritance Tax or even no tax on these types of assets. 3. If money or property was gifted to someone within the 7 years before death, it may be subject to Inheritance Tax. If the recipient of the gift doesn't pay the tax, the burden may fall on the estate (which is the total value of assets after debts). 4. Inheritance Tax is complicated when it involves assets outside the country but generally if a person was domiciled in England or Wales, Inheritance Tax would be due on all worldwide assets.

What is Capital Gains Tax?

Capital Gains Tax is a tax on the profit when you sell (or ‘dispose of’) something (an ‘asset’) that’s increased in value.

Exemptions from Capital Gains Tax

Charities are exempt from paying Capital Gains Tax (CGT) and Personal Representatives (PRs) can minimise CGT by appropriating assets.

When might Capital Gains Tax be payable?

If the deceased owned assets like property and shares, the value of these assets can change over time and can be sold for more than they were worth when the person died. If (after deducting sales costs), the ‘value gain’ between the probate value (probate is known as confirmation in Scotland) and the ultimate sale value is above the executors’ annual Capital Gains Tax allowance, the estate could be liable to pay Capital Gains Tax. Probate is the process whereby a will is "proved" in a court of law and accepted as a valid public document that is the true last testament of the deceased. Applying for probate: What is probate - GOV.UK (www.gov.uk) Capital Gains Tax when someone dies (Self Assessment helpsheet HS282) - GOV.UK (www.gov.uk)

Maximising a legacy gift and reducing Capital Gains Tax

A ‘Memorandum of Appropriation’ can be completed to avoid Capital Gains Tax on charitable gifts. This is when the beneficiaries of an estate use their power to pass ownership of an asset to the charity before a sale takes place. This means the changing value of the asset benefits from the charities exemption and thus avoiding capital gains. This might not always be required as personal representatives have an annual Capital Gains Tax exemption allowance that may be applied against any gains in the value of assets (without the need for a ‘Memorandum of Appropriation’). Capital Gains Tax rates and allowances - GOV.UK (www.gov.uk))

What is a Memorandum of Appropriation and how can it reduce Capital Gains Tax payable?

A ‘Memorandum of Appropriation’ can be completed to avoid Capital Gains Tax on charitable gifts. This is when the beneficiaries of an estate use their power to pass ownership of an asset to the charity before a sale takes place. This means the changing value of the asset benefits from the charities exemption and thus avoiding capital gains.

Income Tax is a tax on particular sources of income. The estate is liable to pay this tax.

When might Income Tax be payable?

If an estate comprises assets such as bank or savings accounts (which earn interest) or shares (which earn dividends) or other assets from which an income is received (such as rent from a property).

Maximising a legacy gift and reducing Income Tax

If income tax has been incurred on the income of an estate after the date of death, by providing a charity with an ‘R185e’ form showing the charity’s share of the tax paid on the income of the estate during the administration period, the charity beneficiary will be able to reclaim its share of the tax paid. It's important to make these claims within 6 years.

Executor's guide to gifts in wills and tax

If you're acting as an executor for someone who has left a charitable gift in their will, it's important to understand the related tax implications that affect administration of a will.

Understanding tax implications

There are three types of tax which may be relevant:

Inheritance Tax
Capital Gains Tax
Income Tax

Tax can be a complex topic but understanding how things work can ensure a generous legacy gift has an even bigger impact. It's a good idea to seek specialised tax advice, but our experts in legacies can offer some guidance too.

Inheritance Tax

What is Inheritance Tax?

Inheritance Tax is a tax on the property and possessions of someone who has died (including houses, money and investments). Personal Representatives are responsible for ensuring this tax is paid.
Exemptions from Inheritance Tax
These types of gifts are generally exempt from Inheritance Tax:

Gifts to a spouse or civil partner

Gifts to registered charities

Gifts to political parties

Gifts to community amateur sports clubs
When might Inheritance Tax be payable?

In most cases a gift which is left to charity in a will won't be subject to Inheritance Tax.

Inheritance Tax is usually payable above the £325,000 nil rate band allowance. The nil rate band is a threshold set by the government and anything up to this level is free of Inheritance Tax.

Any legacy gift left to a spouse, civil partner, charity or community amateur sports club is exempt and does not use up this threshold.

The allowance can be increased by a further £175,000 (the residence nil rate band), if a property is being left direct to a child (including adopted, foster or step-children) or grandchildren.

Executors can use any unused allowances from a deceased spouse or civil partner to increase the threshold. This means a further £325,000 (nil rate band) and £175,000 (residence nil rate band) might be available to reduce the inheritance tax due.

Work out and apply the residence nil rate band for Inheritance Tax - GOV.UK (www.gov.uk)
How to calculate Inheritance Tax

Unless there is a contrary intention in the will, Inheritance Tax (if due) will be payable from the non-exempt share of residue of the estate. The residue is the estate which is left after any pecuniary and specific gifts are made.

This might not be the case if there are large pecuniary and/or specific gifts (which have been made "free of tax") and all or part of the residuary estate is left to charity. It might be necessary for all beneficiaries to bear the tax pro-rata (in proportion to their share).

These calculations are called "grossing up" and "double grossing up".

Inheritance Tax grossing up calculator – GOV.UK (www.gov.uk)
Grossing up and double grossing up

Grossing Up: Where there are non-exempt legacies which are left free of tax which exceed the nil-rate band, these will have to be grossed up for Inheritance Tax and, where the residue is left solely to charity, the tax burden will need to be paid from residuary funds before the charity receives its residuary gift.

Inheritance Tax grossing up calculator – GOV.UK (www.gov.uk)

Double Grossing Up: When there are non-exempt pecuniary and/or specific gifts and the residue is partly exempt and partly non-exempt, it will be necessary to perform double grossing up to calculate Inheritance Tax. The tax attributable to the non-exempt pecuniary and specific gifts will have to be apportioned between the whole residue; while the tax due on the non-exempt share of residue will be only on that part.
Maximising a legacy gift and reducing Inheritance Tax

If the amount gifted to charity in a will exceeds 10% of a taxable estate, the amount of IHT payable on the remaining estate may be reduced. Instead of the usual 40%, a rate of 36% may apply. This will reduce the tax paid from the estate before distribution of funds to beneficiaries.

For example, if the estate is worth £1 million and the tax-free threshold is £325,000, the normal tax rate would be 40%. This would mean £270,000 in tax (40% of £675,000, which is the amount above the threshold).

But if £150,000 is left to charity (which is more than 10% of the estate's value), the tax rate would reduce to 36%. On a £1 million estate with a tax-free threshold of £325,000, the tax would be £189,000 (£1 million minus £150,000 minus £325,000 X 36%). This saves £81,000 in tax.

It's also possible for non-charitable beneficiaries to benefit from the reduced tax rate. In the example below, both the charity and other beneficiaries benefit from the reduced tax rate:

Example 1:

Estate: £1,325,000

Unused Nil Rate Band: £325,000

Taxable estate: £1,000,000

Gift to Macmillan: £80,000

Tax: £368,000 (£1,000,000 minus £80,000 x 40%)

Available funds after charity gift and tax: £552,000

Example 2:

Estate: £1,325,000

Unused Nil Rate Band: £325,000

Taxable estate: £1,000,000

Gift to Macmillan: £100,000

Tax: £324,000 (£1,000,000 minus £100,000 X 36%)

Available funds after charity gift and tax: £576,000

The examples above are simplified and to ensure the 36% Inheritance Tax rate can be used, a basic calculation needs to be done on the different asset types that make up the estate (assets owned jointly, assets held in trust, all other assets). The gift to all charities must be at least 10% of the value of a specific part of the estate.
What is a Deed of Variation and how can it reduce Inheritance Tax payable?

There may be circumstances when the beneficiaries of an estate can change the way in which the estate is distributed. This is done by using a Deed of Variation which needs to be executed within two years of date of death.

One of the reasons for doing this might be to trigger the reduced 36% Inheritance Tax rate by donating more of the estate to charity (to meet the 10% rule).

This process is commonly used when people have died in quick succession, for example where a supporter leaves their estate to Macmillan (and this includes inheritance from someone else who died within the last two years). The executors of the first estate can vary the will to pay that inheritance direct to Macmillan. The charity exemption from Inheritance Tax can be used and the tax paid reclaimed.

Tax relief when you donate to a charity: Leaving gifts to charity in your will - GOV.UK (www.gov.uk)

HM Revenue & Customs: Inheritance Tax reduced rate calculator (beneficiahmrc.gov.uk)
Other considerations

1. There may be rare occasions when a will specifies that all beneficiaries share the burden of Inheritance Tax regardless of the type of beneficiary (whether exempt from Inheritance Tax or not). This situation requires a different ‘grossing up’ exercise to be carried out and more Inheritance Tax is generally payable as a result

2. Special Inheritance Tax reliefs may apply if you have business assets or agricultural property. These reliefs mean that you may pay less Inheritance Tax or even no tax on these types of assets.

3. If money or property was gifted to someone within the 7 years before death, it may be subject to Inheritance Tax. If the recipient of the gift doesn't pay the tax, the burden may fall on the estate (which is the total value of assets after debts).

4. Inheritance Tax is complicated when it involves assets outside the country but generally if a person was domiciled in England or Wales, Inheritance Tax would be due on all worldwide assets.

Capital Gains Tax

What is Capital Gains Tax?

Capital Gains Tax is a tax on the profit when you sell (or ‘dispose of’) something (an ‘asset’) that’s increased in value.
Exemptions from Capital Gains Tax

Charities are exempt from paying Capital Gains Tax (CGT) and Personal Representatives (PRs) can minimise CGT by appropriating assets.
When might Capital Gains Tax be payable?

If the deceased owned assets like property and shares, the value of these assets can change over time and can be sold for more than they were worth when the person died.

If (after deducting sales costs), the ‘value gain’ between the probate value (probate is known as confirmation in Scotland) and the ultimate sale value is above the executors’ annual Capital Gains Tax allowance, the estate could be liable to pay Capital Gains Tax.

Probate is the process whereby a will is "proved" in a court of law and accepted as a valid public document that is the true last testament of the deceased.

Applying for probate: What is probate - GOV.UK (www.gov.uk)

Capital Gains Tax when someone dies (Self Assessment helpsheet HS282) - GOV.UK (www.gov.uk)
Maximising a legacy gift and reducing Capital Gains Tax

A ‘Memorandum of Appropriation’ can be completed to avoid Capital Gains Tax on charitable gifts. This is when the beneficiaries of an estate use their power to pass ownership of an asset to the charity before a sale takes place. This means the changing value of the asset benefits from the charities exemption and thus avoiding capital gains.

This might not always be required as personal representatives have an annual Capital Gains Tax exemption allowance that may be applied against any gains in the value of assets (without the need for a ‘Memorandum of Appropriation’).

Capital Gains Tax rates and allowances - GOV.UK (www.gov.uk))
What is a Memorandum of Appropriation and how can it reduce Capital Gains Tax payable?

A ‘Memorandum of Appropriation’ can be completed to avoid Capital Gains Tax on charitable gifts. This is when the beneficiaries of an estate use their power to pass ownership of an asset to the charity before a sale takes place. This means the changing value of the asset benefits from the charities exemption and thus avoiding capital gains.

Income Tax

Income Tax is a tax on particular sources of income. The estate is liable to pay this tax.
If an estate comprises assets such as bank or savings accounts (which earn interest) or shares (which earn dividends) or other assets from which an income is received (such as rent from a property).
If income tax has been incurred on the income of an estate after the date of death, by providing a charity with an ‘R185e’ form showing the charity’s share of the tax paid on the income of the estate during the administration period, the charity beneficiary will be able to reclaim its share of the tax paid.

It's important to make these claims within 6 years.