If you haven’t already seen the news, UK Inheritance Tax has moved to a residence-based system.
The changes significantly put the odds in favour of British expats living overseas, who can move simply assets offshore to shelter them from UK IHT (after being non-resident for 10 years).
But it also brings some complications.
Before the latest changes, a married couple could effectively leave behind £1,000,000 and pay no UK Inheritance Tax.
Each member had a £325,000 Nil Rate Band, and a £175,000 Residence Nil Rate Band that could be used against your primary residence.
You also didn’t pay IHT on anything left to your spouse (if UK domiciled), and they would keep your unused allowances.
So most people left everything to their spouse, who on their death (provided their home wasn’t worth more than £350,000) could pass on £1,000,000 free of UK Inheritance Tax.
The New Rules – Inter-Spousal Gifts
Under the new residence-based IHT regime, you’ll lose the benefits from gifting assets to your spouse tax-free on your death, unless they opt to be treated as UK long-term residents.
If you’re spouse elects to be treated as a UK resident, their worldwide assets will fall back into scope for UK Inheritance Tax, until they’ve lived overseas for 10 consecutive years.
Understandably you don’t want this to happen, if you have assets over £1,000,000.
The New Rules – The Residence Nil Rate Band
If you’re looking to be treated as non-UK resident for IHT purposes, you’ll also lose the £175,000 Residence Nil Rate Band.
Because you can’t claim relief from IHT for a main residence in the UK, at the same time as claiming to be non-UK resident.
The New Rules – Pensions
Pensions used to exempt from UK IHT, but from April 2027 they will be included in your estate for UK IHT purposes.
The challenge with pensions is the only way to move them outside of the UK, is either withdraw them and pay 20-45% income tax…
Or move the to a QROPS and pay the 25% overseas transfer charge.
Whilst this might be preferable to paying 40% IHT on your pension, it needs careful consideration.
And a simple solution is to spend your pensions before your other assets.
So what allowances do you have?
If you opt to be treated as UK long term residents for IHT purposes, your worldwide assets are assessable for UK IHT. But you’ll still have a Nil Rate Band of £325,000 per person. And a Residence Nil Rate Band of £175,000 per person. This can be combined across spouses, allowing for £1,000,000 in total relief.
If you opt to be treated as a non-UK long term resident, only your UK assets will be assessable for UK IHT. And you have an allowance of £325,000 left. Both members of a couple have this, but your estate would be tested against this twice, so it doesn’t stack up like it used to.
Let’s look at an example:
Bill & Sarah have lived outside of the UK for 10 years. They have no plans to return to the UK.
They have a UK property worth £321,000. And two UK rental properties, one worth £113,000 and the other £137,000. All held jointly.
Sarah has a UK SIPP worth £152,000 from her time working in the UK, before moving overseas.
Bill worked offshore in Saudi Arabia for much of his career. So they have build up savings and investments of £672,000 held jointly in an offshore investment account in Jersey.
They also have a home in Spain, worth £242,000, where they live.
(Total assets of £1,637,000)
They have mirror wills, which leave all of their assets to each other.
UK IHT on the first spouse’s death:
If Sarah died tomorrow, her UK assets would be valued at £437,500.
If Bill elected to be treated as a UK-resident spouse:
No UK IHT would be due, as he can benefit from the inter-spousal gift in full.
But Bill’s worldwide estate will now be in scope for UK IHT, until he’s been non resident for 10 consecutive years.
If Bill maintains his status as a non-resident spouse:
£45,000 would be deducted from Sarah’s estate for UK IHT.
Their worldwide assets remain out of scope for UK IHT. So only Bill’s UK-situs assets will remain in scope for UK IHT when he dies.
Looking at the numbers, this might seem like a clear-cut decision, but it’s actually on Bill’s death where things become complicated.
UK IHT on the second spouse’s death:
After Sarah’s death, Bill has left all their assets in his will to their two children. If Bill dies within the next 10 years whilst living overseas:
If Bill had elected to be treated as a UK-resident spouse:
He can used both his & Sarah’s £325,000 Nil Rate Bands when he dies (£650,000 total)
He can claim relief from IHT on their UK property up to £350,000.
But as the property is only worth £321,000 that’s the maximum relief.
So he retains UK IHT allowances of £971,000.
But his worldwide assets of £1,637,000 are subject to the UK IHT.
This means as a UK resident he would pay £266,400 in UK IHT.
If Bill had maintained his status as a non-resident spouse:
Bill now has £678,000 of UK based assets, subject to UK IHT.
On Bill’s death his estate will pay a further £141,200, in UK IHT.
But his non-UK assets will be free of UK Inheritance Tax.
So their total combined UK IHT bill as non-UK residents would be £186,200.
So by not electing to be treated as a UK-resident spouse, and keeping their liquid assets (cash & investments) outside of the UK, they saved £80,200 in UK inheritance tax.
However, if Bill & Sarah had less than £1,000,000 in worldwide assets, they may be better off electing to be treated as UK residents.
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