Your marital status and whether you have children have huge implications when you pass away.
Sections
Introduction
Whatever our finances, we all need to consider what will happen to our assets (or lack thereof) when we pass away.
Do you need to make a will? Does it make a difference if you’re not married? Will your family need to pay off your debts? What if you have children with a previous partner?
We've put together a guide to answer these questions.
Inheritance Tax: the basics
Marriage/civil partnerships
If you're married or in a registered civil partnership, the situation is normally relatively straightforward and you can typically leave your entire estate to your spouse free from IHT.
Imagine Helen is in a registered civil partnership with Jayne. Helen passes away and leaves an estate worth £750,000. Helen can pass this entire amount to Jayne free from IHT.
Helen can also leave her unused tax-free IHT allowance of £325,000 to Jayne. This means Jayne will have a tax-free allowance of £650,000 on her own estate when she passes away.
Marriage Allowance: how to get a £900 tax break
Cohabitating couples
If you're not married to your other half, but own assets such as a home together, the financial situation can be more complex – and expensive.
The law regards an unmarried couple as two single people when it comes to dividing money and property. In simple terms, this means the surviving partner will need to pay tax on any inheritance above the tax-free allowance.
Let's say Vanessa lives with Neil, but they aren't married. Vanessa passes away having left a will and bequeaths the entire value of her £450,000 estate to Neil.
Because Neil and Vanessa were not married at the time of her death, he will need to pay tax on the £125,000 she has left him above the nil-rate band.
If your unmarried partner didn't leave a will, his or her family may also have the right to claim a portion of their assets, including savings, life insurance policies and pension pots.
Passing on property
Leaving money to children
Be aware, your children (whether with a current or previous partner) will need to pay IHT tax on anything above the tax-free threshold.
Say you're a single parent and leave an estate of £500,000 to your children, they'll need to pay tax on anything above the nil-rate band. In our example, they would need to pay tax on £175,000 of their inheritance (less if it included property - see above).
Setting up a trust is often one of the most effective ways to reduce IHT and can also mean you have a say in how your beneficiaries use your assets.
Many parents of young children set up trusts if their offspring aren't ready to make sensible decisions about their finances. You could, for example, specify your children don't receive their inheritance until they reach a certain age or this money is ring-fenced for their educations or weddings.
When it comes to setting up a trust, there are typically three main people involved:
- The settler: the person who puts money into the trust
- The trustee: the individual responsible for making decisions over funds
- The beneficiary: the person who receives money and assets
There are a number of types of trusts, including:
- Bare: typically allow the beneficiary to access their inheritance when they reach 18 (in England and Wales) or 16 (in Scotland)
- Vulnerable person: normally established on behalf of a person with a disability or a child too young to make financial decisions
- Interest-in-possession: the beneficiary receives an immediate income, but can’t access the assets underlying the trust
- Discretionary: the trustees have total say over how assets are used
- Mixed trust: a combination of a number of the above types of trust
Alternately, you can use tax-free gift allowances to pass on your wealth.
Under the seven-year rule, any gifts made at least seven years before your death are exempt from IHT.
All UK residents have a yearly £3,000 tax-free allowance and you can also carry over any leftover allowance from one tax year to the next, with a limit of £6,000.
Inheritance Tax: should you give your kids their inheritance early?
Donating to a charity
Your debts
After your death, your estate will need to cover the value of your debts before awarding any money or assets to your family or friends.
If you jointly owned your home with a partner, your creditors may force your other half to sell the property to cover the money you owe.
Joints tenants in a rented property will also need to cover any rent arrears acquired during their tenancy if their partner passes away.
If you have taken out a joint credit arrangement such as a personal loan or mortgage with a spouse or partner, they’ll still be liable for the outstanding debt after your death.
For more information on dealing with debt, visit StepChange
Life insurance
If you'd like to make sure your beneficiaries aren't saddled with a tax bill they can't afford, you could consider taking out a life insurance policy to cover the cost.
Rather than being forced to pay IHT from the value of your estate or get themselves into debt, your beneficiaries could use any payout to settle their IHT bill.
Be aware, there may also be other claims against any life insurance policy – for example, your creditors may have a right to any settlement paid out.
Where to get help
Passing on wealth is a complex area of law and finance, which means it may be sensible to seek advice from a solicitor or accountant who specialises in this area before making any decisions.
There are, however, a number of online resources that can provide information.