The new “Residence Nil-Rate Band” (RNRB) is the government’s way of increasing the potential Inheritance Tax (IHT) relief for a married couple to £1m (to £500,000 for an individual) to meet their election promises. The RNRB is an additional allowance in addition to the standard £325,000 IHT exemption but is restricted to use against your main residence. It will be phased in on a sliding scale over the next few years from £100,000 in 2017/18 and then at £25,000 annual increments until reaching the desired £175,000 per person in 2020/21. There is a tapered withdrawal of the additional allowance if the estate exceeds £2m.
From the draft legislation currently available, the RNRB (sometimes called a “Residence Nil-Rate Allowance” or “RNRA” just to confuse matters) will be a transferable allowance, which can be transferred from your spouse (in a similar way that any unused IHT exemption from a spouse may now be claimed on the second death of a couple). The new allowance will be used first – before the general IHT exemption – and is to use against your main residence with the intention that it would exempt a couple’s home in expensive parts of the country of up to £1m in value from IHT (ie: £325,000 + £175,000 = £500,000 per spouse using the 2020/21 figures). The property must also be “closely inherited” which means passed to a close relative (such as children, grandchildren, etc)
The legislation goes some way to restrict the use of the RNRB to your main residence by putting in various safeguards but there is an interesting benefit from the new allowance in circumstances where you may downsize your home after 8 July 2015.
In order to dissuade the elderly now holding onto a large property that maybe they no longer need in order to claim the increased allowance and save IHT, the legislation allows you to retain the same amount of relief from the larger property should you choose to downsize (thus removing the incentive to remain in the larger property). But of course, on your death, as you no longer own that more expensive property, you cannot offset the amount of relief that you are now being given against a smaller, less valuable property.
Therefore, any balance of the RNRB that may be generated by downsizing can only be relieved against other assets subject to Inheritance Tax on your death, be that cash, investments or other assets (although the “closely inherited” restriction remains).
Whilst the current legislation is apparently at odds with the original intention that it should be for the use of exempting the main residence from IHT, in circumstances where you do downsize you will not miss out on the relief and will in fact have potentially greater IHT reliefs than someone who was already in less valuable property.
The algebra is rather tortuous but by way of an example, suppose Mike and John are brothers. Both have sons to whom they will leave their entire wealth, both are long-term widowers and both have estates worth £1.5m in total. However, Mike lived in a flat in South London worth £240,000 before selling in June 2018 and returning to Halesworth where John has lived all his life. Mike ends up buying an identical house to his brother in the same street worth £190,000. Had Mike died in June 2018 when he sold his flat, he would have been entitled to RNRB of £250,000 (£125,000 from his own estate and £125,000 from his late wife using the RNRB rates available for 2018/19). The amount the flat would have used of the allowance would have amounted to 96% of the RNRB. When Mike dies in February 2019, the value of the new house would be covered by the RNRB but would represent only 76% of the available relief. The difference £50,000 RNRB (£240,000 – £190,000) would be available to be set against other assets (cash, cars, investments, etc) passed to his son, saving a further £20,000 IHT (£50,000 @ 40%). Contrast this with his brother John who, whilst worth exactly the same, has not downsized from a more expensive home and will only receive RNRB up to the value of his home (£190,000) if he dies on the same day and thus will pay £20,000 more overall in IHT.
So, leaving aside the benefits of escaping South London to live in our wonderful county, downsizing can have a positive effect on the amount of Inheritance Tax relief you could be entitled to and it is therefore very important to keep details of the sales proceeds of any property sold after 8 July 2015.
For further information on any of the above points or to discuss your tax affairs generally, please do not hesitate to contact Robin Beadle.