For many, your home represents your most significant asset. Naturally, the desire to pass it on to your children is strong, ensuring they benefit from its ownership. However, with the inheritance tax threshold, also known as the “nil rate band,” currently stagnant as property values soar, it’s crucial to assess whether your heirs might face substantial tax liabilities upon inheriting property.
How does inheritance tax on homes work?
There are several scenarios in which your heirs might encounter additional tax obligations after inheriting a property, depending on their chosen course of action. It’s advisable to discuss these possibilities with them beforehand to manage expectations. If they opt to sell the property without residing in it, they may incur capital gains tax (CGT), a tax applied to the profit earned from asset sales. While individuals selling their primary residence enjoy an exemption, a property inherited by your descendants typically falls under the category of a second home if they opt not to occupy it.
The calculation of capital gains tax hinges on the profit generated from selling an asset. In the context of inheritance, this profit is determined by the property’s value at the time of the original owner’s death. If the selling price remains unchanged, no taxable profit ensues. However, if the value appreciates, the new owners must pay standard CGT rates.
Moreover, tax implications arise if your family decides to rent out the property posthumously. While renting can provide supplementary income, it also attracts income tax on the proceeds, along with standard landlord expenses such as agency fees, licenses, and insurance.
Can I gift my property to my children before I pass away?
One strategy to mitigate inheritance tax liabilities involves transferring property to your children while you’re alive. However, this process isn’t always straightforward, primarily due to the “seven-year rule.”
This rule stipulates that no inheritance tax applies to gifts if the donor survives for seven years post-gifting. Should the donor pass away within three years of making the gift, the gifts could be subject to the full 40% inheritance tax rate. For deaths occurring between three and seven years after the gift, tax liability occurs on a sliding scale.
In essence, if you gift property to a family member and pass away within seven years, they may still face inheritance tax on the property, provided its value surpasses the nil rate band. Additionally, upon receiving the gift, the new owner must pay stamp duty if a mortgage remains on the property. However, if the property is mortgage-free, no stamp duty is applicable.