Most UK nationals living in Mallorca are affected by UK inheritance tax. 6th April 2017 sees the introduction of a reform that will reduce the amount of tax paid by most estates. Announced in the 2015 summer budget, it effectively increases the inheritance tax threshold to a potential £1 million. This figure is for a couple, and the increase will happen gradually over four years and only applies to property – with a number of limitations. So will your estate benefit from a £1 million nil rate band or not?
The Residential Nil Rate Band (RNRB)
The inheritance tax rate is fixed at 40%, with a tax-free threshold (the ‘nil rate band’) of £325,000. When this allowance is not used, or only partly used, you can transfer the balance to your spouse or civil partner. So the threshold for a couple or surviving spouse can be as high as £650,000.
The £325,000 allowance will remain in place and is frozen until the end of the 2020/2021 tax year. However, estates will now benefit from a second, additional allowance, the new Residential Nil Rate Band.
The final ‘family home allowance’ will be £175,000, but it will be introduced gradually from April 2017 as follows:
• £100,000 in 2017/18
• £125,000 in 2018/19
• £150,000 in 2019/20
• £175,000 in 2020/21.
From 2021 onwards the allowance will increase in line with the consumer price index.
As with the regular nil rate band, you will be able to transfer the allowance to a spouse or civil partner in line with existing principles. This makes a total potential threshold for a couple of £1 million by 2020.
Limitations on the allowance
You need to be aware though, that there are limitations which may affect what allowance your heirs will receive.
First of all, it only applies to property and is only given where the property is inherited by direct descendants, so children (including adopted and stepchildren) and grandchildren. You also need to have lived in the property at some stage, so investment property is not eligible.
If you own more than one property, only one will qualify for the allowance. And since it only applies to property, assets besides the family home do not receive any extra allowance.
Secondly, a limit is imposed, so that higher valued estates do not benefit. Where an estate is worth over £2 million the residential nil rate band is tapered, £1 for every £2, so that estates valued at over £2.2 million do not receive this allowance at all (they still get the standard £325,000).
Note that this £2.2 million value applies to your whole, worldwide estate, not just to property. So this will include your savings and investments, trusts, pay outs from life insurance policies, pension lump sums received on the death of a spouse/partner, cars, furniture and personal belongings such as jewellery. It will also include applicable gifts given away over the last seven years. Debts and liabilities are deducted from the total assets and gifts.
Since the residential nil rate band is only available where property is passed directly to children and grandchildren, this will not apply to many trusts. For example, discretionary trusts will be excluded, since the assets are technically owned by the trust, not by your descendants.
Some types of trusts do qualify, such as interest in possession and immediate post death interest trusts, because in this case the property is deemed to pass directly to the beneficiaries.
So if you own property in a trust, if you have not already done so you need to seek advice as soon as possible to establish what you need to do to protect your family from paying unnecessary tax.
Expatriates and the new allowance
If you are UK domiciled, you are liable for inheritance tax on your worldwide assets – liability does not depend on residence. Domicile law is complex; you can live in Spain for many years and remain a UK domicile.
You can claim the new additional family home allowance on a property here in Mallorca, provided it is your main home. Local succession tax may still apply.
In spite of this new nil rate band, the UK’s Office for Budget Responsibility still expects the government to take £1.8 billion more in inheritance tax receipts over the next five years than was forecast just last November. Rising house prices and booming stockmarkets mean asset prices are rising, pushing more families further into the inheritance tax net. It would also mean that more estates pass the £2.2 million limit for the property allowance, which could see them lose the £175,000 allowance. Inheritance tax on £175,000 is £70,000, so this could really affect your heirs.
Seek advice, and sooner rather than later, on how to protect your family and other heirs from inheritance tax. It gets more complex for expatriates because of the domicile issue. You need specialist cross-border estate planning advice to establish where you are domiciled and the most effective solutions for you. It is important to understand how the UK tax interacts with Spanish succession tax and what steps you can take to avoid or mitigate these taxes for your heirs.
For more information and personalised advice, contact Blevins Franks on +34 971 719 181.
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This article was written on the 18th of May, 2017.