Inheritance Tax Planning: Your Complete UK Guide
Understand how to reduce inheritance tax legally and pass more to your loved ones
What is Inheritance Tax?
Inheritance tax (IHT) is a tax on the estate (property, money, and possessions) of someone who has died. In the UK, IHT is charged at 40% on the portion of an estate exceeding the nil-rate band threshold.
Key Figures for 2025/26: Nil-rate band remains at £325,000. Residence nil-rate band adds £175,000 for property passed to direct descendants. estates above £2 million lose the residence nil-rate band at a rate of £1 for every £2 above the threshold.
The Nil-Rate Band: Your Tax-Free Allowance
The nil-rate band (NRB) is the amount you can pass on without paying any inheritance tax. Currently set at £325,000, this has remained frozen since 2009 despite inflation, meaning more estates are being drawn into IHT.
Standard Nil-Rate Band
- • £325,000 tax-free threshold
- • Fixed since 2009 (frozen until 2026)
- • Applies to all estates
- • Can be transferred between spouses/civil partners
Residence Nil-Rate Band
- • £175,000 additional allowance
- • Only when passing residence to direct descendants
- • Gradually reduced for estates over £2 million
- • Can also be transferred between spouses
Planning Tip: A married couple with a family home could potentially pass on up to £1 million tax-free (£650,000 NRB + £350,000 RNRB between them).
The 7-Year Rule: Tapered Gifts
Gifts made during your lifetime may be exempt from IHT if you survive for 7 years after making them. This is one of the most important concepts in inheritance tax planning.
| Years Between Gift and Death | IHT Payable |
|---|---|
| Less than 3 years | 40% |
| 3-4 years | 32% |
| 4-5 years | 24% |
| 5-6 years | 16% |
| 6-7 years | 8% |
| 7+ years | 0% - Fully exempt |
IHT Exemptions: Gifts That Cost Nothing
Several types of gifts are completely exempt from IHT, regardless of when you die. Using these annually can significantly reduce your estate over time.
Annual Exemption
- • £3,000 per year
- • Can carry forward one year's unused allowance (£6,000)
- • Use it or lose it each tax year
Wedding Gifts
- • £5,000 to children
- • £2,500 to grandchildren
- • £1,000 to anyone else
- • Must be given on/institutions around wedding day
Gifts from Surplus Income
- • No limit - immediately exempt
- • Must be regular, habitual gifts
- • Cannot affect your standard of living
- • See our Surplus Income Guide
Trusts: Protecting Assets for Future Generations
Trusts are legal arrangements that allow you to transfer assets while maintaining some control over how they are used. They can be powerful tools for IHT planning but require careful setup and ongoing management.
Bare Trust
- • Simplest trust type
- • Beneficiary has absolute right to capital and income
- • Assets fall into estate but grow tax-efficiently
Discretionary Trust
- • Trustees decide how to distribute income/capital
- • Assets usually outside the estate after 7 years
- • More flexible but higher setup/admin costs
Important: Trust law is complex. Always seek professional advice before setting up a trust, as incorrect setup can lead to unexpected tax consequences.
Life Insurance in Trust
Writing life insurance in trust is one of the simplest and most effective IHT planning strategies available. It can provide funds to pay IHT bills without the beneficiaries having to sell assets.
Life insurance written in trust immediately removes the pay-out from your estate for IHT purposes.
The pay-out goes directly to beneficiaries without going through probate, providing quick access to funds.
Can provide cash to pay IHT bills without forcing beneficiaries to sell property or investments.
Pensions: Often Overlooked IHT Planning Tool
Your pension fund is typically excluded from your estate for IHT purposes. This makes pensions one of the most tax-efficient vehicles for passing wealth to future generations.
Why Pensions Are Powerful for IHT Planning
- • Outside your estate: Death benefits from pensions are usually paid without IHT
- • No 7-year rule: Funds can pass immediately on death without waiting periods
- • Flexible access: Beneficiaries can use drawdown for income or take as lump sum
- • Continues growing: Funds can stay invested in drawdown
Quick Wins: Start Today
Some IHT planning strategies can be implemented immediately without complicated setup:
Give £3,000 to anyone today - it's immediately exempt and costs you nothing.
If you have life insurance, ensure it's written in trust to exclude it from your estate.
Check that your pension and insurance nominations are up to date to ensure funds go where intended.
If you have surplus each month, making regular gifts can slowly reduce your estate.