Couples need to check they are not inadvertently leaving their children with a tax bill by failing to take account of new inheritance tax rules.
Traditionally, couples have safeguarded children from tax on inheritances by setting up a discretionary trust.
This allowed them to pass any unused nil-rate band for inheritance to their children without any tax falling due.
However, new inheritance tax rules due to phase in from April 6, 2017 render this trust ineffective and instead of removing a tax liability, could add one.
Inheritance tax is charged at 40% on the value of an estate of £325,000 for an individual and £650,000 if a spouse or civil partner has passed their nil rate band on to the surviving partner.
Nil rate band up to £1 million
From 2017, a new residence relief adds £175,000 to an individual’s nil rate band and £350,000 to a couple’s nil rate band if they are passing on a former home or assets of a similar value to their children.
The relief starts at £100,000 in April 2017, with £25,000 added over the next three years to reach £175,000 in April 2020.
As the trust was primarily as a device to remove inheritance tax from the unused nil rate band, writing one into a will has now become unnecessary.
The trust can work against tax saving because under the new rules, a couple has relief of up to £1 million to pass on to their children without inheritance tax.
Law change highlights need for review
But under trust law, ownership of the nil rate band passes to the trust, which could pay tax before passing them on to children, creating an unnecessary tax bill.
The change of rules highlights the need for regular reviews of estate planning to ensure new law has not overtaken conventional advice and left a financial pitfall for the unwary.
“Dealing with discretionary trusts in the face of new inheritance rules is one of the most common client issues with estate planning,” said David Smith of advisers Tilney BestInvest.
“At least seven out of 10 wills coming through our offices have discretionary trusts attached that no longer work as intended.”