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02 Apr 20
Residence nil-rate band: How does this affect Trusts?
The residence nil-rate band (RNRB), is a piece of legislation that permits the further reduction of Inheritance Tax (IHT) on the sale of a family home.
How does the residence nil-rate band work in 2021?
The legislation has been in effect since 6 April 2017 and the individual allowance for 2021 remains at £175,000. The allowance will increase in line with the Consumer Price Index (CPI).
It is transferable between spouses, which will eventually permit them potentially to pass on wealth up to £1m without incurring tax.
Prior to RNRB being introduced, what happened was that every person received a Nil Rate Band of £325,000 (this is the value of an estate that is not subject to inheritance tax). Now that the new RNRB has been introduced each parent will have a nil rate band of £325,000 plus a RNRB of up to £175,000 (by 2020). A potential total of £500,000 for each parent which is not subject to inheritance tax on death.
Who can inherit?
The new allowance is available only when estates are directly inherited by children, stepchildren, adopted children or grandchildren. It will not apply if property is left to nieces or nephews, for example, or brothers or sisters.
How does the residency test work?
To claim the RNRB, you must leave a property in your estate.
For a property to qualify under the RNRB legislation, it is sufficient for the property to have been a residence (i.e. not necessarily a main residence) of the deceased at some point. A property that has always been a buy-to-let, for example, will not qualify.
The importance of using trusts correctly to ensure RNRB applies
If you’re concerned about inheritance tax and hope to mitigate it through gifting, asset transfer or the new residential property allowances, it’s important to check your position regularly. Getting it right, and reviewing any existing Wills/trusts is key to making sure reliefs are maximised.
There are a number of planning opportunities available to ensure that the RNRB is either fully utilised or transferred on first death. These opportunities include the use of trusts. However, careful consideration must be given to the particular type of trust created to ensure it not only utilises or maintains the RNRB, but that it delivers where you ultimately want your estate to go to.
It was common years ago for each spouse to leave their share of a property, up to the prevailing nil-rate band, in trust for their children. But a Will that relies on such a trust may not qualify for the RNRB because the beneficiary is the trust, not a child.
The RNRB only applies where the residential property is passed over directly. In other words, it won’t apply where it is inherited via some trusts, such as through a discretionary trust, however this depends on who the beneficiaries are and their rights to the assets and income of the trust.
Some trusts which are, for the benefit of children and grandchildren will not result in a loss of the allowance. This is where the property is held absolutely for the benefit of the descendant or through an interest ‘in possession trust’. The latter is where the beneficiary of a trust has an immediate and automatic right to the income from the trust as it arises.
Other trusts such as Bereaved Minor Trusts, 18 – 25 Trusts and Disabled Persons’ Trusts will also retain the additional nil rate band.
With careful planning and by ensuring you have a professionally drafted Trust (which is kept updated when any changes occur to your personal circumstances), you will make sure that your family are properly provided for on your death and any liability to inheritance tax has been minimised.
In order to fully understand the RNRB, and how it will impact on your estate, a review of your current legacy planning is recommended. Likewise, if you don’t have the necessary arrangements in place, it is vital that you take the appropriate measures taking into account this new legislation.