Inheritance Tax Planning – Residential Nil Rate Band

The Prime Minister and the Chancellor had announced, prior to the Summer Budget 2015, the introduction of the new additional nil rate band for main residence. However the details of the measure were not exactly what had been predicted.

A number of other changes have also been announced as well as further freezing of the current nil rate band (£325,000 per person) until April 2021.

The Additional Nil Rate Band together with the existing nil rate band will, with effect from April 2017, mean Inheritance Tax will not be payable for an individual until their estate exceeds £425,000 and for a couple £850,000.

Legislation will be introduced to provide for an additional ‘main residence’ nil rate band for an estate if the deceased’s interest in a residential property, which has been their residence at some point and is included in their estate, is left to one or more direct descendants on death.

To put this into context here are a few examples:

Nil Rate Band – Example 1

John and Jennifer own two properties, both of which have at some point been occupied by them as a residence.

On John’s death after 5 April 2017, he leaves his interest in property A (which is owned by John and Jennifer jointly as tenants in common) to his children. Jennifer continues to occupy property B which is owned as joint tenants and has been the couple’s main residence since they retired. John’s executors are able to nominate John’s interest in property A as his ‘qualifying residential interest’ thereby ensuring that his estate benefits from the additional residence nil rate band (as well as his standard nil rate band) on his death first.

This ability to nominate could be particularly useful where, for example, one property is held in the name of one spouse and one in the name of the other spouse – especially if the combined value of the two properties is below the combined value of two additional RNRBs.

Nil Rate Band – Example 2

Assume that John and Jennifer each own one of the two aforementioned properties in their own sole name and that each property is worth around £200,000.

On John’s death, after 5 April 2017, his entire additional RNRB can be offset against the property transfer on his death first. This will leave Jennifer’s residence nil rate band to be used against the property that she owns when she passes it on to the children on her subsequent death.

Contrast the position if John had left his property to Jennifer. While Jennifer’s executors could claim John’s unused RNRB under the transferable nil rate band rules (because he is transferring a qualifying residence to her – see below), they would be able to nominate just one of the two properties as the qualifying residence thereby wasting up to a maximum of £175,000 of John’s RNRB.

In the above example, if John died in 2020/21, he would use all of his £175,000 RNRB and £25,000 of his standard nil rate band.

Nil Rate Band – Example 3(a)

Gillian, a widow, dies in July 2021 with an estate of £2.5m.

Her estate comprises her main residence worth £1.6m and other assets. Because Fred, her husband, left all of his estate of £1.7m to her on his death in 2019 and his estate included an interest in their house, Gillian’s additional RNRB should be enhanced – by 100% – to £350,000.

However, because Gillian’s estate exceeds £2m, her additional RNRB will be reduced by £1 for every £2 by which her estate exceeds the taper threshold of £2m. In other words, her enhanced additional RNRB will be reduced by £250,000 to £100,000. Her total nil rate band is therefore £750,000.

Had Fred’s estate been valued at £2.5m on his death, Gillian would not have benefited from any transferable RNRB on her death. Provided Gillian’s estate does not exceed £2m, her estate will qualify for a total nil rate band of £825,000 (£325,000 standard NRB, £325,000 TSNRB and her own £175,000 RNRB)

Nil Rate Band – Example 3(b)

Roger dies in June 2019 with an estate valued at £2.5m.

All of his assets, which include an interest in a private residence, pass to his wife Jan.

On Jan’s death in July 2022, her estate is valued at £1.5m and includes the private residence worth £1m that passes to her children.

Jan’s estate will be entitled to a RNRB of £175,000. There will be no transferable RNRB because of the size of Roger’s estate when he died.

Special rules to protect those who downsize

There was concern that these changes would act as a disincentive for elderly people in expensive homes to downsize. To deal with this issue the new proposals will allow people who have owned valuable homes to defer their allowance until death, even if they moved out of the property decades earlier.

How will this affect you?

With the main nil rate band (£325,000 per person – less any gifts / Trusts made within 7 years of death) frozen until 2021 Tax Year and house prices increasing more and more, even with the help of the additional nil rate band for the residence (but not until 2017), many people will still have a considerable potential Inheritance Tax liability on their death.

Potential liabilities will need to be recalculated and a review of existing Wills may be required to ensure they qualify for this additional nil rate band.

Regrettably, given the restrictions on the additional nil rate band and its applicability (i.e. transfer on death to direct descendants only as well as the limit on the vaue of the estate), there will still be numerous people who will not be able to benefit from this and will need to use other strategies to mitigate Inheritance Tax.

What should you do next?

If you are unsure how RNRB might effect you, please give us a call on 01825 763366 or email us using the Contact Form.