As financial advisers with offices in both the UK and Australia, we’re regularly asked about the issue of Inheritance Tax (IHT). This is particularly the case for Australians who have been living and working in the UK for some time. You may well be in this position yourself.
To help you get an idea of how IHT works and how it could affect you, here are six key facts about UK IHT for Australians living in the UK.
Please note what you read here is only a high-level overview. IHT is a complicated subject, even more so if you’re not a UK resident, so we would strongly recommend you seek professional advice from a tax expert in this regard.
1. When it comes to UK IHT, domicile is a key issue
You’re automatically assigned the same domicile as your parents when you’re born. From that time, if there’s no change to your circumstances, that country will be your domicile. You’ve probably seen this referred to as your “domicile of origin”.
Even if you move and start working abroad, your domicile of origin won’t change immediately. It’s only after a certain period of time, establishing that country as your permanent home, and creating a substantial connection with that country, that your domicile could change.
The two key things to remember are:
- If you’re domiciled outside the UK, only the value of your assets in the UK will be subject to IHT on your death.
- If you’re UK-domiciled, then all your worldwide assets will be considered when assessing the IHT liability on your estate.
2. How IHT is charged in the UK
IHT produces a sizeable amount of revenue for the Treasury each year. Between April 2021 and February 2022, HMRC figures confirm £5.5 billion was paid in IHT – an increase of more than 12% on the corresponding figure a year before.
In very simple terms, IHT is payable on the value of your estate above the nil-rate band.
The current IHT nil-rate band (NRB) for the 2022/23 tax year is £325,000. On top of your NRB, you also have an additional residence nil-rate band (RNRB) of £175,000 – assuming you’re passing your main home to your children or grandchildren.
Both these allowances are frozen until at least April 2026.
Bear in mind that these thresholds apply to individuals rather than couples, and allowances can be passed to the surviving partner on the death of the other person. This means that you and your partner could pass on up to £1 million without IHT being due.
3. There are benefits of being a “non-dom”
When someone who is UK-domiciled dies, the whole value of their worldwide assets is subject to IHT, based on the allowances outlined in the previous section.
However, if you are non-UK-domiciled (a “non-dom”) only the value of your assets in the UK will be subject to IHT.
As you can imagine, non-dom status could save your family from a sizeable demand from HMRC, if you have substantial assets outside the UK.
4. It’s crucial to understand the concept of “deemed domicile”
One important consideration if you’ve been living and working in the UK for an appreciable length of time is “deemed domicile”.
It’s something to be aware of if you’ve lived in the UK since before 2007.
Deemed domicile is acquired if you’re a non-dom but have been a UK resident in 15 of the 20 preceding tax years.
For example, if you first moved to the UK in 2002, returned to Australia in 2005 and then moved back to the UK in 2010, you have been resident in the UK for 15 years out of the last 20 and so are assumed to have deemed domicile.
Given that deemed domicile status means all your worldwide assets will be subject to UK IHT, you can appreciate why it’s so important to be conscious of it and incorporate it into your financial plan.
5. You can take active steps to reduce your IHT liability
Regardless of whether you’re UK-domiciled or a non-dom, there are some steps you can take to reduce your IHT liability.
The most common and straightforward way to do this is to gift your assets. Again, there are differences in how gifts are treated from an IHT perspective.
If you’re UK-domiciled, gifts are regarded as potentially exempt transfers (PETs) and IHT may be charged – on a tapered basis – if you die within seven years of making the gift. This is commonly referred to as the “seven-year rule”.
But if you’re a non-dom you will pay no IHT on such a gift. The seven-year rule does not apply. Note that the seven-year rule will apply if you have deemed domicile.
The type of gifts you could consider making to reduce your IHT liability include:
- Pension contributions, which are also subject to tax relief from HMRC
- Gifts to members of your family
- Charitable gifts
- Paying for the cost of your children’s education, including their university fees.
You could also consider purchasing a property for your children, outside the UK.
6. Using trusts can help reduce IHT
If you’re currently a non-dom but are aware that it’s likely you’ll attain deemed domicile status in the near future, you should be planning ahead. It’s clearly financially beneficial to try and reduce your IHT liability prior to your change of domicile status.
One way to do this is by setting up an “excluded property trust”.
This involves setting up such a trust as a non-dom and gifting non-UK assets to an excluded property settlement prior to you becoming deemed domicile.
The assets in the excluded property trust will remain outside the scope of UK IHT even after you are deemed domiciled.
The assets will also remain outside the scope of IHT beyond your death, so will be protected for future generations.
Get in touch
As you’ve probably appreciated while reading this article, the whole issue of Inheritance Tax is far from straightforward.
We would always strongly recommend you speak to financial experts. Get in touch if you would benefit from advice.
This article contains general advice only, which has been prepared without taking into account the objectives, financial situation or needs of any person. You should, therefore, consider the appropriateness of the information in light of your own objectives, financial situation or before acting on the information.”