Learning Outcomes
After studying this article, you will be able to identify when inheritance tax (IHT) applies in wills and estate administration, differentiate immediately chargeable and potentially exempt transfers, explain main exemptions and reliefs, and advise on the duties of personal representatives (PRs) when IHT is due. You will also be able to spot key exam pitfalls in IHT calculations and deadlines.
SQE2 Syllabus
For SQE2, you are required to understand the core principles of inheritance tax as it applies to estate administration. Ensure your revision covers the following:
- When and on which occasions inheritance tax is chargeable (lifetime and death transfers)
- The difference between potentially exempt and immediately chargeable transfers
- The main exemptions and reliefs available from IHT, including spouse/civil partner and charity exemptions
- Calculation and application of nil rate band and residence nil rate band
- Payment and timing of IHT, including PR obligations
- Practical issues for personal representatives, including form completion and priority of payments
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
- For which three types of occasions may inheritance tax become chargeable on a person’s estate or relevant property?
- Briefly explain the difference between a potentially exempt transfer (PET) and a lifetime chargeable transfer (LCT).
- A testator dies leaving all his estate to his spouse, but he made a substantial gift to his son two years before death. What is the tax position, and what action must the PRs take?
- Identify two key exemptions and one main relief that reduce IHT on death estates.
Introduction
Inheritance tax (IHT) is an important consideration in the administration of estates. IHT may arise during a person’s lifetime or on their death. Personal representatives must understand the rules to ensure correct calculation and payment. This article focuses on the main chargeable occasions, key exemptions and reliefs, calculation principles, and the role of PRs in handling IHT.
When does IHT arise?
IHT may be payable on three types of occasions:
- On the death of an individual (the death estate)
- On certain lifetime gifts (potentially exempt transfers and chargeable transfers)
- On transfers into relevant property trusts and certain trust events
Key Term: chargeable transfer
A gift or transfer of value that is subject to IHT unless exempt.Key Term: potentially exempt transfer (PET)
A lifetime transfer from an individual to another individual (or certain trusts) that escapes IHT if the transferor survives seven years.Key Term: lifetime chargeable transfer (LCT)
A gift to a company or most trusts that is immediately chargeable to IHT when made, regardless of whether the donor survives seven years.
Property subject to IHT
IHT is charged on a person’s estate at death, which includes all property the deceased owned beneficially immediately before death (less allowable liabilities). The ‘death estate’ also includes certain gifts made within seven years of death if they are not fully exempt.
Key Term: death estate
All assets beneficially owned by the deceased at death, after deducting qualifying liabilities.
Main exemptions and reliefs
Certain transfers are exempt from IHT. The most important exemptions for exam purposes are:
Key Term: spouse/civil partner exemption
Transfers between spouses or civil partners are exempt from IHT, whether made during lifetime or on death.Key Term: charity exemption
Transfers to UK-registered charities (and some EEA charities in practice) are exempt from IHT.
Annual exemption (currently £3,000 per tax year, plus possible carry-forward from the previous year) and small gifts exemption (£250 per recipient per year) apply to certain lifetime gifts only.
Other key reliefs include:
Key Term: business property relief (BPR)
A relief reducing or removing IHT on certain qualifying business assets, typically at 100% or 50%, depending on asset type and conditions.Key Term: agricultural property relief (APR)
A relief reducing or removing IHT on qualifying agricultural property.
The nil rate band (NRB) and residence nil rate band (RNRB)
Every individual has a nil rate band (£325,000 at the time of writing), so transfers up to this value are charged at 0%. Transfers over this threshold are charged at 40% (or possibly 36% if the estate qualifies for the ‘reduced rate’ by giving at least 10% to charity).
If the deceased leaves a residence (or the sale proceeds) to a direct descendant, their estate may benefit from an additional residence nil rate band (RNRB).
Key Term: nil rate band (NRB)
The value of property that can be transferred without paying IHT (at 0%).Key Term: residence nil rate band (RNRB)
An extra threshold for IHT where a home (or sale proceeds) is left to direct descendants.
The cumulative total and the seven-year rule
When calculating IHT on death, PETs and LCTs made within the last seven years before death are aggregated to determine whether the nil rate band has been used up. If so, IHT is payable on the excess at death rates. The IHT rate on PETs/LCTs is reduced (tapered) for gifts made more than three years before death.
Key Term: taper relief
A reduction in the IHT payable on certain lifetime transfers if the transferor dies more than three years after the gift.
How is IHT calculated?
For the exam, you need to be able to:
- Identify when lifetime gifts or transfers are taxed as PETs or LCTs and understand the effect if the transferor dies within 7 years
- Apply the NRB and any available RNRB, and understand the effect of pre-death gifts on the available threshold
- Understand which exemptions or reliefs can be claimed, and in what order
Worked Example 1.1
A client gave £200,000 to her daughter five years before death and £100,000 to her son three years before death. On death, her estate is worth £500,000, all left to her partner (who is not married to her). She has made no other gifts. What IHT is payable?
Answer:
First, both gifts are PETs as they are to individuals. Because the client died within seven years, both PETs become chargeable. Aggregate the pre-death gifts: £200,000 + £100,000 = £300,000. The NRB is £325,000, so these use up almost all the band. The first £300,000 of the estate passes at 0% (NRB used up), the remaining £200,000 is taxable at 40% (£80,000 payable). Partner is not exempt as a spouse or civil partner.
Main exemptions and reliefs (expanded)
- The spouse exemption applies to both lifetime and death transfers. Transfers to cohabitees (not married or civil partners) are not exempt.
- The charity exemption applies to death and lifetime gifts to registered charities.
- The NRB (and RNRB if eligible) is deducted after all available exemptions are applied. PETs and LCTs within 7 years of death can reduce the available NRB.
- BPR and APR may remove the value of business or agricultural assets from tax, but only if conditions are met.
Worked Example 1.2
A widow dies leaving £1m to her three children in equal shares, with a house worth £500,000. She made no PETs or LCTs in the seven years before her death and was predeceased by her husband ten years earlier with all his assets left to her. What is the maximum NRB available, and what will be the taxable estate?
Answer:
The widow can claim her own NRB (£325,000) plus her late husband's unused NRB (100% transferable), giving a total NRB of £650,000. If her will leaves the home to her direct descendants, she also claims the RNRB (currently £175,000) for a total of £825,000 at 0%. Thus, £175,000 is taxable at 40% = £70,000.
Duties of personal representatives
Personal representatives (PRs) are responsible for calculating and paying any IHT due on the death estate. They must:
- Ascertain the value of all the deceased's assets and debts
- Identify any PETs or LCTs the deceased made within seven years before death
- Claim all allowable exemptions and reliefs
- Ensure IHT due is paid before applying for a grant of representation
Key Term: personal representative (PR)
A person appointed to administer the estate of a deceased person. Includes executors (if appointed by will) or administrators (if appointed by the court).
Payment and timing of IHT
Inheritance tax on the death estate is normally payable six months after the end of the month of death. PRs must pay the tax (except for certain types of land or qualifying business assets, where payment can be spread over ten years) before the grant of representation can be obtained.
Key Term: grant of representation
The document giving PRs legal authority to deal with the estate.
Worked Example 1.3
The executor of a will discovers after distribution that the deceased gave £90,000 to his brother three years before death but failed to declare it. The deceased's NRB was already fully used by other gifts. Who is now liable for the extra IHT?
Answer:
In the first instance, the recipient of the gift (the brother) is primarily liable for the IHT on the failed PET. If the tax is not paid within 12 months, the PRs may become liable for the unpaid tax, to the extent of estate assets received or distributed.
Exam Warning
For exam purposes, ensure you understand the sequence: identify all relevant gifts in the seven years before death, deduct available exemptions/reliefs, apply the NRB/RNRB, and only then calculate the taxable estate and resulting IHT.
Revision Tip
Always check if an exam scenario involves spouses, charities, or lifetime gifts, as exemptions and the seven-year rule can change the entire calculation and liabilities.
Summary
- IHT can arise in lifetime or on death, or on relevant trust events.
- The NRB (and RNRB if available) is key for calculating tax thresholds.
- Spouse/civil partner and charity exemptions remove gifts to such recipients from charge.
- PETs become chargeable if the transferor dies within seven years; LCTs are immediately chargeable.
- PRs must pay IHT before obtaining a grant, except in limited cases.
- Key reliefs (BPR, APR, taper relief) may reduce or eliminate tax on qualifying assets or gifts.
Key Point Checklist
This article has covered the following key knowledge points:
- The three main occasions when IHT may apply: on death, on certain lifetime gifts, and on trust events.
- The differences between potentially exempt transfers and immediately chargeable transfers.
- Calculation and application of the nil rate band and residence nil rate band.
- Key exemptions: spouse/civil partner, charity, annual exemption.
- Main reliefs: business property relief, agricultural property relief, taper relief.
- The duties of PRs in valuation, tax calculation, timing, and payment.
- Exam scenarios involving PETs, LCTs, delayed payment, and liability for unpaid IHT.
Key Terms and Concepts
- chargeable transfer
- potentially exempt transfer (PET)
- lifetime chargeable transfer (LCT)
- death estate
- spouse/civil partner exemption
- charity exemption
- business property relief (BPR)
- agricultural property relief (APR)
- nil rate band (NRB)
- residence nil rate band (RNRB)
- taper relief
- personal representative (PR)
- grant of representation