Inheritance Tax (IHT) is charged on your estate when you die, at a rate of 40%. The first £312,000, however, is charged at 0%. This is the “nil rate band” (NRB), and it increases each tax year, with the new amount announced in the Budget.
Legacies between spouses (and civil partners) are exempt from IHT, so if Mr X dies and leaves everything to his wife, no IHT will be payable, and his NRB will not have been used. Following the announcement in October 2007, when Mrs X dies, she can use not only her own NRB, but she can increase it by 100% to take account of Mr X’s unused NRB.
If Mr X had used some but not all of his NRB by leaving a legacy to, say, his brother, then Mrs X could still use whatever percentage of the NRB that Mr X did not use. If his legacy to his brother had used half of the NRB in the year of his death, Mrs X could still add 50% to her NRB when she dies – giving her a NRB of £468,000 for the current year (£312,000 x 150%).
It does not matter when Mr X died – even if this was before October 2007 – Mrs X can have the unused percentage of his NRB. This can lead to some unexpected results.
Imagine that Mr X left everything to Mrs X when he died, so that potentially she has a NRB for the current year of £624,000. Mrs X is now Mrs Y, because she has remarried, and she decides that she would like to leave something to her children from her marriage to Mr X.
Her solicitor suggests she leave a sum equivalent to the NRB to her children, and the rest to her new husband, Mr Y. As Mrs Y reckons her assets are worth about £600,000, this seems fair to her and she agrees. The solicitor drafts a Will for her on these lines and she signs it.
It was commonplace to leave a legacy equivalent to the NRB, perhaps to a family trust, and in many cases it is still a good idea even if you are a married couple, but that is beyond the scope of this article.
There are two common wordings used by solicitors drafting a Will for a “NRB legacy”:
· “I leave the largest sum that can pass without inheritance tax being payable to...”
· “I leave a sum equivalent to the nil rate band at the time of my death to...”
Mr Y had better hope his wife’s solicitor has used the second of these two wordings, because if he used the first, Mr Y will get nothing!
Just re-read those wordings – if the first one has been used, the “largest sum that can pass” free of IHT in Mrs Y’s case is £624,000, because of the NRB she took over from the late Mr X. Her estate, you will remember, is only worth £600,000, so her children will get the lot!
The transferable NRB is good news for married couples, and for those who have lost their spouses already, but if your Will has a NRB legacy in it, check the wording to make sure it will still have the effect that you expect!