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Nobody likes paying tax, but to many people Inheritance Tax (IHT) is particularly unpallatable. It is generally a second tax on what has already been taxed when the money or asset was received, and it is levied on someone who doesn't have any say in the matter!

See our Video Introduction for some more background.

Of course, you may not expect to have an Inheritance Tax bill at all. But if you think you might have, then it is worth doing what you can to avoid Inheritance Tax as far as possible. The tax is a hefty 40% so it's certainly worth avoiding if possible.

One big problem with this tax is that it applies to gifts made up to 7 years (or even 14 years in some cases) before you die. So if you receive a gift from someone who subsequently dies, the tax man may may come to you and ask you to pay 40% tax on that gift – even if you’ve now spent it!

An increase in the Inheritance Tax threshold or basic allowance (the "Nil Rate Band") has been suggested which would remove some people from its clutches. But that may or may not happen, and the country is not in a good position to be reducing tax at present, so here are some ways that you can reduce a future liability:

1. Think ahead - the worst time to find that there is Inheritance Tax to be paid is after someone has died! Although there are some possibilities for redistributing assets after death (a Deed of Variation on a will) that is unlikely to be as effective as planning ahead. So knowing your likely liability, and making changes in advance is the best plan.
2. Reduce your estate value below the Nil Rate Band – Up to this level of assets you have no IHT worries. What’s more, if you are widowed, you may be able to use your late spouse’s Nil Rate Band as well, depending on the assets they owned individually. See our Inheritance Tax Allowances article.
3. Make gifts to use allowances – Various other allowances are available which apply to gifts given during your lifetime. Above those allowances you may be liable, particularly if you die within 7 years of the gift. See our Inheritance Tax Allowances article.
4. Put assets into trust – This is effectively the same thing as the previous point, but by making the gift to a trust, it is possible to retain some control on how the assets are used. For example, you may be concerned to retain some money invested in case you need it to fund long term care. Different types of trust are available which provide different levels of access to that money.
5. Start an Equity Release Plan - if you own your own home, then an equity release plan could release some capital by creating a debt. Provided the capital is spent (or gifted within the allowances) the debt reduces the value of the estate since it has to be paid back on death when the property is sold. This option needs careful planning since otherwise the debt can end up being higher than the IHT would have been, but for older people this is an option worth considering.
6. Make plans to pay the tax - you may just have to accept that some IHT will be due on death. One possibility is a whole of life insurance plan written in trust which will make a sum of money available for your executors to use to pay the IHT. Since it is owned by the trust the funds will be available in advance of Grant of Probate. If it is not written in trust, then the tax has to be paid from other resources before Probate is granted.

See More Articles on Estate Planning and Inheritance Tax.

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Last reviewed: 31st December 2010