How to calculate your inheritance tax
Last updated 14th July 2023
7 min read
When someone dies, inheritance tax may need to be paid from their estate. Whether tax is due and how much is owed depends on the money, property or possessions the person has left behind, and who they left them to. Learning how to calculate inheritance tax can help you with financial decision-making and planning. For example, you will be able to estimate how much tax will need to paid from your estate before your loved ones can inherit it when you pass on.
If you’re looking for more general information on inheritance, you can read our complete guide to inheritance. The guide explains how inheritance works and what factors are important to consider. Read on to find out how to calculate inheritance tax.
Things to know before calculating your inheritance tax
There are a few things you need to know about inheritance tax before trying to calculate how much will be owed.
Firstly, your loved ones won't usually need to pay inheritance tax if the total value of your estate (this includes money, property and possessions) is below £325,000. But, even if it is below this tax threshold, you still may need to report the value of the estate to the government.
Secondly, if everything above the £325,000 threshold is left to your spouse, civil partner, or a charity, there will normally be no inheritance tax to pay either.
Also, the inheritance tax threshold can increase to £500,000 if you are giving away your home to your children or grandchildren.
The last major thing you need to know is that if the value of your estate is below the threshold then your unused threshold can be transferred(www.gov.uk opens in a new tab) to your spouse or civil partner. For example, if you are married and your partner dies and only leaves £125,000 to your children and grandchildren, they would be £200,000 below the £325,000 tax threshold. When you die, you could then add that £200,000 to your own threshold, meaning you could leave up to £525,000 that would not be subject to inheritance tax. You’ll need to let HMRC know within 2 years of your partner dying if you plan to transfer their unused threshold.
Finally, if you are planning for your own estate, remember that the tax thresholds and rates could change in future. This means that potential inheritance tax owed by your estate in your estimations now might not be the same after you have died, even if your estate does not change in value.
Calculating how much inheritance tax your loved ones will have to pay
In the UK the standard inheritance tax rate is 40%. This is only applied to anything that is above the threshold.
For example, if the total estate is worth £400,000 and there are no other factors affecting the threshold, then the 40% inheritance tax rate is applied to the remaining £75,000 (£400,000 - £325,000). This would leave £30,000 owed in inheritance tax.
To calculate the potential inheritance tax that might need to be paid on your estate, you’ll need to:
- Calculate the value of everything you own (your estate)
- Minus any debts such as mortgages or loans (these will need to be repaid before any inheritance is given out)
- Decide if or how much inheritance you will leave to your spouse, children or grandchildren (as this could affect your tax threshold)
You can then see whether your total estate is worth more than the £325,000 threshold, and whether there are any other factors affecting your threshold.
How to calculate the total value of the estate
The first step in calculating your inheritance tax is to add up the total value of your estate. This is done to understand whether you are under or over the inheritance tax threshold of £325,000.
You’ll need to add up all your assets, joint assets and even gifts you’ve given others in the past 7 years (with a few exceptions – see the full rules on gifts on the government website(www.gov.uk opens in a new tab)). This will then give you the total value of the estate.
1. Value all your assets
To work out the total value of your estate you need to first work out the value of all your assets. This includes your house and any other property such as land, shares in companies as well as items such as jewellery.
When you die, the executor of your will needs to keep a record of how your estate has been valued for up to 20 years after the inheritance is released. This may include contacting organisations that held your assets(www.gov.uk opens in a new tab), such as banks. Even if you’ve already done a good job of valuing your estate, it will need to be double checked after you die in case anything has increased or decreased in value.
If you’re unsure or worried about correctly valuing your estate, you can reach out to a financial adviser who can guide you through the process.
For a more comprehensive guide on calculating the value of your estate, check the UK’s government guide to valuing and reporting an estate for inheritance tax(www.gov.uk opens in a new tab).
In the next sections, we’ll use this example to calculate inheritance tax. Starting with the value of the assets:
|Asset Examples||Value of Assets Example|
|Money in bank||£7,000|
|Asset Total Value||£450,000|
2. Deduct debts and liabilities
Now you have the total value of the assets, you can work out the total value of the estate by deducting any debts owed. Debts include things such as mortgages, equity release loans, credit cards or other loans.
If we stick with the example shown above, let’s say they had a loan of £50,000 that they hadn’t paid back yet, but had no other debts. To work out the total value of the estate we can take the total value of the assets (£450,000) and deduct the total value of the debt: £50,000.
|Asset Examples||Value of Assets Example|
|Money in bank||£7,000|
|Loan to Repay||-£50,000|
|Asset Total Value||£400,000|
So, the total value of the assets (£450,000) minus the £50,000 loan = £400,000. This means that the total value of the estate is £400,000.
The next step is to apply the inheritance tax threshold to see how much of this estate is taxable.
3. Apply the inheritance tax threshold
Once you know the final value of the estate, it's time to apply the inheritance tax threshold (sometimes called the ‘nil-rate band allowance’). Simply, if the final value is under £325,000 after all exceptions, then there is likely no inheritance tax owed.
It’s key to remember that the tax threshold can be different for some people and could be higher than the standard £325,000. Your tax threshold might be different if:
- You are leaving inheritance to your spouse
- You are leaving your home to your children or grandchildren
- You have applied to transfer your spouse's unused threshold
When using the standard nil-rate allowance, if your final value is above the nil-rate band then your estate might have to pay 40% tax on the amount over £325,000.
In the case of the example above, this means we take the total value of the estate minus the nil-rate band allowance to see how much is taxable. £400,000 - £325,000 = £75,000 of taxable inheritance.
Calculate inheritance tax due and pay HMRC
The final step is to apply the 40% tax rate on the amount above the nil-rate allowance. With our example, this means that £75,000 will be taxed at 40%.
40% of £75,000 = £30,000. So, in this example, £30,000 would need to be paid to HMRC from the estate of the person who has died.
If inheritance tax is due, you have to pay the inheritance tax(www.gov.uk opens in a new tab) by the 6th month after they've died. This can be split into yearly payments to help spread the cost and give you time to sell the assets.
The final thing to remember is that if inheritance tax is due, you also have to submit the full details to HMRC within 12 months of the person dying. This involves submitting a form called IHT400(www.gov.uk opens in a new tab). Accurate valuations are needed for this form rather than just estimates, so it’s worth getting a professional valuation on anything worth over £1,500.
Even if inheritance tax is not due, there are a few cases where a full report to HMRC is still needed. Find out more about these exceptions on the government website(www.gov.uk opens in a new tab).
- What is considered a large inheritance?
- Why do people choose to leave an inheritance
- What to consider before agreeing to give an early inheritance
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