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Advice opportunities in new IHT tax incentive

Prudential’s Gerry Brown shows how advisers may employ the new IHT tax incentives to advise clients

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The 10% charitable legacy is to be based on the value of the estate after deduction of IHT exemptions and reliefs.

Although a number of issues remain to be teased out of the proposal, as part of the consultation process, the basic principles seem relatively straightforward, and suggest opportunities for advisers interested in helping their clients to reduce the inheritance tax paid by their beneficiaries.

Example of 79-year-old widower

Take, for example, the case of Phil Anthropy, a 79-year-old widower. Phil’s wife, Charity, died from cancer some years ago, and Phil has himself been in poor health.

Phil is determined to get his affairs in order, and speaks to his adviser about tax efficient gifting.

Phil has a state pension and a small occupational pension. His income is approximately £10,000 per annum. He supplements this with regular withdrawals from a life assurance bond.

Phil lives in a house worth about £800,000. His estate for inheritance tax purposes – including house contents and the bond – is £1m.

He wishes to make some bequests to cancer research charities, with the rest of his estate passing to his grandchildren. However, in view of his state of health and concern over future care costs, he does not want to make gifts during his lifetime.

Phil has “inherited” a full IHT nil-rate band from Charity.

His adviser draws up the following IHT calculationm which does not take advantage of the 
charitable legacy donation tax break:

Estate value £1,000,000
Nil rate band £   650,000
Potentially taxable £   350,000
Tax @ 40% £   140,000
Available to Anthropy grandchildren £   860,000

Next, Phil’s adviser explains the IHT advantages of charitable legacies that will become
available from 6 April 2012, and draws up the following revised calculation: 

Estate value £1,000,000
Nil rate band £   650,000
Potentially taxable £   350,000
Charitable legacy £     35,000
Subject to inheritance tax £   315,000
Inheritance tax @36% £   113,400
Available to Anthropy grandchildren £   851,600*
 * Editor’s note: This figure has been fixed to reflect the author’s original, which was temporarily wrong due to a typographical error

In other words, a charitable gift of £35,000 has "cost" the family £8,400.

The tax charge has fallen from £140,000 to £113,400 – a drop of £26,600

The tax relief effect of this charitable legacy amounts to 26,600/35,000 x 100 = 76%

So the Government has contributed £26,600 (76%) to the charitable legacy, and the Anthropy grandchildren £8,400 (24%)

Of course, this assumes that the core proposals, as described in the consultation document, eventually become law.

Meantime, we may wish to look beyond the tax effects of the proposed changes and examine the political objectives behind them. This Government has a policy of incentivising charitable giving through the tax system, and, as this IHT proposal demonstrates, has developed a number of approaches to help it achieve this aim.

The downside of the current consultation is that individuals will want to leave "wealth" to charity on death rather than during their lifetime, as it will be more tax efficient to do so. The result is that this "deferral" may not be good news for charities which need money now rather than later.

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