Do You Pay Tax on Inherited Money in the UK?

In the UK, individuals who receive inherited money generally do not pay income tax directly on the inheritance itself. Instead, the deceased person’s estate may be subject to Inheritance Tax (IHT) before any assets are distributed to beneficiaries. This tax applies to the overall value of the estate, encompassing money, property, and other possessions. The liability for this tax falls upon the estate, not the individual who receives the inheritance.

Key Principles of UK Inheritance Tax

UK Inheritance Tax (IHT) is levied on the value of a person’s estate upon their death. This includes all assets such as bank accounts, investments, real estate, and personal belongings. The tax is typically paid by the executor or administrator of the deceased’s estate from the estate’s funds before any distributions are made to the beneficiaries. This means that the inheritance you receive has already had any applicable IHT deducted.

The estate also includes certain gifts made within seven years before death, which are known as Potentially Exempt Transfers (PETs) and Chargeable Lifetime Transfers (CLTs). PETs are gifts to individuals that become exempt from IHT if the donor lives for seven years after making the gift. CLTs are gifts made into a trust during the donor’s lifetime, which may be immediately chargeable to IHT at a reduced rate if they exceed certain thresholds, or become fully chargeable if the donor dies within seven years.

Inheritance Tax Thresholds and Rates

Currently, the standard tax-free threshold for most estates, known as the Nil-Rate Band (NRB), is £325,000. If an estate’s value falls below this amount, no Inheritance Tax is typically due. Any portion of this £325,000 threshold that remains unused can be transferred to a surviving spouse or civil partner, potentially doubling their IHT-free allowance to £650,000.

An additional allowance, the Residence Nil-Rate Band (RNRB), applies if a main residence is passed directly to lineal descendants, such as children or grandchildren. This allowance is £175,000. This can increase an individual’s total potential IHT-free threshold to £500,000, or up to £1 million for married couples and civil partners if both NRB and RNRB are fully utilized and transferred. The RNRB is subject to a tapered withdrawal for estates valued over £2 million.

The standard Inheritance Tax rate is 40% and applies to the portion of the estate that exceeds these combined available thresholds. A reduced rate of 36% may apply if at least 10% of the net estate is left to a qualifying charity.

Exemptions and Reliefs

Several statutory exemptions can significantly reduce or even eliminate Inheritance Tax liability. Gifts or transfers made between spouses or civil partners, whether during their lifetime or upon death, are generally exempt from IHT. Similarly, gifts made to qualifying charities, either during one’s lifetime or through a will, are also exempt from IHT.

Specific reliefs exist for certain types of assets, such as Business Property Relief (BPR) and Agricultural Property Relief (APR). These reliefs can reduce the value of qualifying business or agricultural assets for IHT purposes by up to 100%, depending on the specific circumstances and ownership period. There are also annual gift allowances, including an annual exemption, a small gifts exemption, and specific allowances for gifts made in anticipation of marriage or civil partnership.

Reporting and Paying Inheritance Tax

The executor(s) or administrator(s) of the deceased’s estate bear the legal responsibility for managing the Inheritance Tax process. This involves accurately valuing all assets and liabilities within the estate.

Once the estate’s value is determined, specific forms must be completed and submitted to HM Revenue & Customs (HMRC). The primary form for Inheritance Tax is the IHT400. After submitting the forms, any Inheritance Tax due must be paid. The deadline for payment is typically the end of the sixth month after the person’s death to avoid accruing interest.

Several methods are available for paying IHT, including direct payment from the deceased’s bank account, bank transfer, or through a solicitor. Obtaining the Grant of Probate or Letters of Administration, a legal document allowing executors to access and distribute the deceased’s assets, usually occurs after IHT has been paid or an arrangement for payment has been made with HMRC. HMRC may review the details and could raise inquiries if further information or clarification is needed.