Inheritance Tax and Personal Tax: A Crib Sheet

It has been a turbulent few months for the tax landscape, with new legislation and government U-turns. Now that the dust has settled, we wanted to give a round-up of current rates and provide clarity on how they might impact you.

Income Tax - What income do you pay tax on?
You pay income tax to the government on earnings from employment and profits from self-employment during the tax year, which runs from 6 April to 5 April the following year. Income tax is also due on some benefits and pensions, the money you get from renting out property, and returns from savings and investments above certain limits. Income tax personal allowance has been frozen until April 2028 at £12,570. Basic rate tax payers do not have to pay any tax on income below this level.

The threshold at which people start paying higher tax rates has also been frozen. This means that as wages rise, people will pay tax on a larger proportion of their earnings, and more people will move into higher tax brackets. Once you earn over £100,000 a year, you start losing your tax-free personal allowance. You lose £1 of your personal allowance for every £2 that your income goes above £100,000. If you earn more than £125,140 a year, you no longer get any personal allowance. You can find a full list of allowances, and rate bands here.

National Insurance (NI)
You pay National Insurance contributions to qualify for certain benefits and the State Pension. The Chancellor, recently confirmed that the main National Insurance thresholds will also remain frozen until April 2028. Those over the state pension age do not pay NI, even if they are still working. You can find the full list of exemptions here.

Capital Gains Tax (CGT)
Capital Gains Tax is a tax on the profit when you sell (or ‘dispose of’) something (an ‘asset’) that’s increased in value. It’s the gain you make that’s taxed, not the amount of money you receive. For example, if you bought a painting for £15,000 and sold it later for £25,000, you’ve made a gain of £10,000 (£25,000 minus £15,000).

Some assets are tax-free. You also do not have to pay Capital Gains Tax if all your gains in a year are under your tax-free allowance. The capital gains tax allowance from April 2023 is £6,000 (a reduction from £12,300 in 2022/23) and the government plan to reduce the allowance again in April 2024 to £3,000. This is a significant difference in a short space of time and could impact the timing of when assets are sold or gifted. You can find a full list of rates here.

Inheritance Tax (IHT)
Inheritance Tax is a tax on the estate (the property, money and possessions) of someone who’s died. There’s normally no Inheritance Tax to pay if either:

• the value of your estate is below the £325,000 threshold
• you leave everything above the £325,000 threshold to your spouse, civil partner, a charity or a community amateur sports club

This £325,000 threshold has been in place since 6 April 2009 and is frozen until 5 April 2028. The standard Inheritance Tax rate is 40%. It’s only charged on the part of your estate that’s above the threshold.

In addition to a person's tax-free threshold of £325,000, The Residence Nil Rate Band (RNRB) means that leaving a main home to lineal descendants will increase the tax-free threshold by up to a further £175,000 (provided the total estate is not valued over £2 million), so that the value of £500,000 can pass tax free per individual. When considering the overall estate, gifts that have been made in the seven years before passing are also reviewed and other reliefs are considered.

The RNRB will only apply if the deceased person’s estate is worth less than £2 million. For every £2 over this threshold, you lose £1, so if an estate is worth over £2.35 million, the residence nil rate band will be lost. You can find a full list of rates here.

Gifts
When it comes to gifting (in other words giving some of your estate as a gift to someone else) there are certain key tax exemptions.

• Annual Exemption - Gifts up to £3,000 annually can be made IHT free. This equates to an IHT saving of £1,200 for every £3,000 gifted. Where an Annual Exemption is unused in one tax year it is carried forward one tax year only but used after the Annual Exemption for that year.

• Small Gifts Exemption - You can also gift up to £250 to any number of individuals in any tax year. A payment of more than £250 to any one individual in the tax year will render the whole gift outside the exemption, and it will be a Potentially Exempt Transfer (“PET”), meaning it will not be fully outside your estate until seven full years have passed.

• Regular Gifts out of Income Exemption - Another useful exemption is that of regular gifts out of excess income. Any income that is not spent will add to your estate and will be taxed at 40% on death to the extent that the Nil Rate Band is exceeded. This is a useful exemption but must be planned carefully to ensure it is done so correctly.

• Gifts on occasion of marriage/civil partnership - Lifetime gifts to persons getting married/entering a civil partnership are exempt from IHT up to certain limits. The limits depend on the relationship of the donor to the individual getting married or entering into a civil partnership. The exemptions are limited to:

N.B. These exemptions apply per marriage/civil partnership rather than per party to the occasion.

• Gifts to UK/EEA charities - Are exempt in lifetime and on death. In addition, subject to certain criteria being met, charitable legacies on death can result in a lower rate of IHT being payable on the estate.

IHT is normally charged at a rate of 40% on the taxable value of an estate above the available NRB. However, to encourage charitable giving, if more than 10% of a death estate is left to charity, the taxable estate is charged at the lower rate of 36%. To ensure the lower rate of IHT applied on death, at least 10% of the value of the taxable estate, after deducting available reliefs and exemptions, will need to be left to charity.

• Gifts to spouse/civil partner - Gifts between spouses/civil partners are exempt from IHT either in lifetime or when made on death, regardless of value. The only exception to this is where one spouse/civil partner is non-UK domiciled, in which case the exemption is limited to a cumulative value in lifetime and on death of £325,000.

• Expenditure on family maintenance - Transfers of value falling within certain normal domestic arrangements are disregarded for IHT. These would include payments for school fees and/or gifts to allow care of dependent relatives.

When gifting during lifetime, care is needed to ensure the donor does not get caught by an anti-avoidance provision called ‘Gifts With Reservation of Benefit’ or GWROB. If the donor makes a gift and continues to ‘enjoy’ the asset, even in a very minor way, the gifted asset is still deemed to be part of his estate until such time as such enjoyment ceases and the gift is then made at its value at that time. Or if still enjoyed at the date of death, the asset is still deemed to be part of his estate at the date of death, at its value at that time.

The rules and exemptions surrounding personal, and inheritance tax can be confusing and complex. At Monahans, our team of experts are on hand to answer any questions you may have and are more than happy to chat through your options. Get in touch today. For a more detailed view of the tax landscape over the next 12 months, our 2023 Tax Planning guide sets out exactly what you need to know, download your copy today.

Prior to 5th April 2023, individuals are being encouraged to review their National Insurance (NI) position. The main driver is to ensure that people are aware of their entitlement to receive a state pension, as well as other benefits, such as employment and support allowance.

Every individual has a NI record made up of National Insurance Contributions (NICs) or credits. In order to receive the new full state pension, you need 35 qualifying years of NICs and at least 10 years to qualify for any amount of UK state pension.

Regular reviews of these records are crucial because they give individuals the opportunity to ensure their HMRC records are correct and allow them to make payments towards their NI statements, if necessary, which will plug any gaps in their NI history.

Voluntary National Insurance Contributions are one way to make sure that individuals have enough qualifying years to receive the full state pension, if they have not already met the conditions. For some, payments may increase the amount of state pension they will receive.

These voluntary contributions can currently be made retrospectively to April 2006, however from 6th April 2023, the window will be curtailed to only the previous six years. This means that in the 2023/24 tax year, it will be possible to make contributions going back to the 2017/18 tax year only.

Why do gaps in NIC appear?
There are numerous reasons that a gap may appear in an individual’s NI record – for instance when someone is employed with low earnings, living or working outside the UK or self-employed with small profits, they may not automatically be making NI contributions and may therefore be unaware of gaps in their record.

Class 2 National Insurance was previously collected separately to self-assessment returns. However, this changed a number of years ago and is now reported and paid as part of the tax compliance process. This might mean that people see their income tax reduce and therefore believe that there will be less tax to pay. However, if it's dropping to the point that they are not making NI contributions, they may not understand the potential future impact on their entitlement to a state pension until it’s too late.

Additionally, individuals who have taken career breaks or couples who have decided not to claim child benefit may be at a disadvantage. This could occur where the primary care giver is not working or claiming, and they may therefore be missing out on qualifying years for NI purposes. It is possible to register for child benefit and not claim the values if individuals are concerned about the child benefit charge.

What could individuals consider doing before April?
We would advise that individuals obtain a state pension forecast and review their NI record prior to 5th April where possible. This can be completed online via their personal tax accounts, or statements can be requested.

A review can then be carried out to check any discrepancies between NI paid and the details on the Revenue’s systems. In addition to this, years where NI Credits are missing can also be identified and any shortfalls reviewed. A forecast will show the cost of making voluntary contributions and financial advice should then be obtained to consider any benefits for making these.

However, although reviewing your record before 5th April is preferable, if this deadline is missed, a review of your records will still be beneficial, and individuals should still review their records after this date has passed.

More than just checking your NIC record, there is a case for improving your financial awareness in general. It would be beneficial for all individuals to consider how many more years they have until they have a full state pension. It may seem premature, but investing time into your understanding now will enable you to effectively plan ahead and avoid getting caught out at a time when you should be relaxing in retirement.

Is the advice the same for everyone?
What NIC advice might work for one individual will not be suitable for another. Therefore, a case-by-case approach is required where the appropriate action is decided, dependant on the individuals’ circumstances. For example, for some, making additional contributions may not increase the state pension entitlement at all.

This is why speaking to an appropriate advisor is crucial. Whilst you may be able to calculate the sums yourself, the value that advice from an expert can bring is in the holistic view they can take of your whole financial profile. Their comprehensive knowledge allows them to clearly explore and explain all of the options, by considering any potentially unseen implications and future considerations. All of which will enable you to make an informed decision that will stand the test of time.

If you want to talk through your NI record, state pension entitlement and your options for making NICs contact me or one of the team today. We’d be more than happy to help. You can also download our PDF guide to the current tax landscape here.

Jessica Long