UK inheritance tax and domicile – what you need to know today
By Matthew Krystman, Partner, Blevins Franks
UK inheritance tax follows UK nationals around the world since it is based on domicile, not residence. You could live in Madeira long-term and still be liable for this legacy tax.
Data released by HM Revenue & Customs (HMRC) at the end of July reveals that it received £1.8 billion in inheritance tax (IHT) receipts for the second quarter of 2022, £300 million more than April to June last year. This continues the upward trend seen over the last 10 years.
Over April 2021 to April 2022 financial year, annual IHT receipts totalled £6.1 billion. This is a 14% increase from the £5.4 billion collected the previous year. The average IHT bill has increased by £7,000 to £216,000.
These figures are expected to keep growing, especially with tax thresholds frozen until 2026 and house prices climbing. In fact, the Office for Budget Responsibility (OBR) has forecast that HMRC will earn around £37 billion from IHT over the next five years. More and more families will get caught in the inheritance tax net and the amount they’ll pay will increase too.
It is therefore definitely worth taking a little time now to review your inheritance tax situation and take steps now to reduce this unwelcome tax liability for your family and heirs. Make sure your estate planning is set up to make the most of the available exemptions and allowances, as well as the tax planning opportunities to reduce or eliminate your liabilities. Don’t rely on IHT planning set up years ago; you need to review your estate planning regularly to ensure it is up to date and remains on track to achieve your wishes.
Key facts about UK inheritance tax
UK IHT is charged when assets are transferred to someone else, usually on death but also potentially on lifetime gifts.
It is calculated and charged on your worldwide estate. This includes all property you own including your home; bank accounts; investments; insurance policies not in trust; household contents; jewellery; vehicles etc. Outstanding mortgages and loans are deducted from the total.
Being tax resident in Portugal does not exempt your estate from this tax. Your estate is liable for as long as you remain a UK domicile – and many British expatriates are UK domiciled their whole life. Domicile is a complex and adhesive UK common law concept. The basic rule is that a person is domiciled in the country in which they have their permanent home – the country regarded as your ‘homeland’. For example, HMRC could deem you a UK domicile if you intend to be buried there.
You can take steps and cut ties with the UK to adopt a domicile of choice in Portugal, though it can take up to four years to shed a UK domicile for inheritance tax purposes. Note that you cannot ask HMRC for a ruling on your domicile status, it will only be established on your death. So you need specialist domicile determination advice.
Assets situated in the UK are always liable to UK IHT, regardless of domicile.
The IHT tax rate is a flat 40% (reduced to 36% if at least 10% of the estate is left to charity).
Transfers to spouses and civil partners are exempt from UK inheritance tax provided you are both UK domiciled. If one of you is domiciled outside the UK, their exemption is limited to the nil rate band.
The standard inheritance tax nil rate band (or threshold/allowance) is €325,000. Any unused amount on the first death can be transferred to your spouse/civil partner, potentially giving your joint estate an allowance of up to €650,000 on the second death.
In addition, the ‘residential nil-rate band’ (RNRB) can provide an extra £175,000 allowance for a property that is, or has been, your main home (but only on one property). It applies to homes outside the UK too. But there are limitations. It is only available if you leave the property directly to children or grandchildren (so be careful with trusts). Also, the threshold is reduced for estates valued over £2 million. At this point it starts tapering off until it is eliminated completely – currently for estates valued over £2.4 million (this is the whole estate, not just property).
While the thresholds are meant to rise with inflation, the 2021 UK budget froze both these thresholds until at least April 2026. The main £325,000 allowance has in fact been frozen for 13 years, since 2009, resulting in more families paying more tax – freezing allowances can have the same effect as cutting them.
Ask a specialist, cross-border wealth management adviser to review your inheritance and estate planning to confirm it is on the right track to meet your wishes for your family and heirs. They should analyse your inheritance tax liability and recommend solutions to reduce your exposure as much as possible. At the same time ask for guidance on Portugal’s succession law and the local inheritance and probate process, to help you take steps now to ensure your estates is divided according to your wishes and to make life easier for your beneficiaries.
Tax rates, scope and reliefs may change. Any statements concerning taxation are based upon our understanding of current taxation laws and practices which are subject to change. Tax information has been summarised; individuals should seek personalised advice.