Inheritance Tax Alert: Frozen Allowances Could Cost Families £3,400 Extra
HMRC is set to expand inheritance tax rules from April 2027, bringing pensions within the scope of the 40% levy. This change, discussed recently by Martin Lewis on his BBC podcast, comes as existing tax allowances have remained frozen for years, silently increasing bills for thousands of households.
Frozen Allowances Pull More Into Tax Net
The nil-rate band, which allows individuals to pass on up to £325,000 in assets tax-free, has been fixed since 2009 and will remain so until at least 2030. Had this allowance kept pace with inflation, it would now exceed £525,000, potentially saving affected families over £80,000 in tax.
Hannah Martin, pensions expert and founder of Rich Retiree, argues that rising inflation justifies increasing these thresholds. "The nil-rate band has been fixed at £325,000 since 2009, and will remain frozen until at least 2030," she stated.
Gifting Allowance Unchanged Since 1981
Another critical element, the £3,000 annual inheritance tax exemption on gifts, has not been updated since 1981. Originally increased from £2,000 under Prime Minister Margaret Thatcher and Chancellor Geoffrey Howe, this allowance would be worth over £11,600 today if adjusted for inflation.
This stagnation means individuals could gift an additional £8,600 annually tax-free, potentially saving estates £3,440 in inheritance tax liability. The failure to update these allowances results in many paying thousands more than necessary.
Simplifying the Inheritance Tax System
Ms Martin suggests reforming the inheritance tax framework to make it more comprehensible and fair. "Some proposals include simplifying the multiple allowances system we currently have, which includes a nil-rate band, residence nil-rate band, spouse exemption, and gifting exemptions, and instead replace them with a single, larger tax-free allowance per person," she explained.
Such a change would streamline administration, enhance public understanding, and eliminate the need for early gifting to avoid the seven-year rule. Outside annual gifting allowances, individuals can give away any amount tax-free if they survive for seven years after the gift.
Key Allowances and How to Use Them
- Each person can pass on up to £325,000 in total assets tax-free.
- An additional £175,000 applies to homes passed to direct descendants like children or grandchildren.
- Unused allowances can transfer to a spouse or civil partner upon death.
- Gift up to £3,000 each tax year, split among any number of people, tax-free.
- Give unlimited gifts of up to £250 to different individuals, provided other allowances are not used for them.
With significant changes looming and allowances lagging behind inflation, families are urged to review their estate planning to mitigate potential tax burdens.
