Major changes for Inheritance Tax in the UK

The Autumn Budget 2024 introduced significant changes to inheritance tax (IHT) rules in the UK, particularly affecting agricultural and business property reliefs. On top of that IHT will now be based on tax residence rather than domicile and this will have important implications for estate planning and wealth management for people who intend to leave the UK.

Changes to Agricultural Property Relief (APR) and Business Property Relief (BPR)

The most notable change is the introduction of a cap on Agricultural Property Relief (APR) and Business Property Relief (BPR) starting from April 2026. Here are the key points:

• A combined £1 million cap will be applied to APR and BPR.
• Assets qualifying for these reliefs beyond the £1 million threshold will receive 50% relief instead of the previous 100%.
• This results in an effective tax rate of 20% on assets exceeding the cap, after utilising the nil rate band (NRB) and residence nil rate band (RNRB).

Impact on AIM Shares

The new rules also affect Alternative Investment Market (AIM) shares, which were previously exempt from IHT if held for at least two years at the time of death. These shares will now be subject to the same 50% relief above the £1 million threshold as other business assets.

Extension of IHT Threshold Freeze

The current nil rate band of £325,000 and residence nil rate band of £175,000 will remain frozen until 2030, extending the previous plan for inflation-level increases from 2028.

New Residence-Based Rules

The new residence-based rules for Inheritance Tax (IHT) in the UK, set to take effect from April 6, 2025, have significant implications for people leaving the UK compared to the previous domicile-based system.

Long-Term Resident Status

Under the new system, individuals will be considered "long-term residents" if they have been UK resident for at least 10 out of the previous 20 tax years. Long-term residents will be subject to IHT on their worldwide estate.

The "Tail" Provision

The new rules introduce a "tail" provision that keeps long-term residents within the scope of IHT even after having left the UK. This is much harsher than the previous setup where one would typically lose their UK domicile 3 years after having left the UK (and therefore avoid UK taxation on inheritance at that point).

• In other words, those having resided in the UK for 20 years or more will continue to be caught by UK IHT net for 10 years after leaving.
• For those having resided between 10 and 19 years, the time an individual remains in the scope of worldwide IHT after leaving the UK is shortened:
  • 10-13 years of residence: 3 tax years
  • 14-19 years of residence: 4-9 tax years (increasing by one year for each additional year of residence)

Resetting the Clock

To completely reset the clock and fall outside the UK IHT regime, individuals will need to be non-UK resident for 10 consecutive tax years.

Comparison and Implications

1. Longer Exposure to IHT: The new system generally extends the period during which individuals remain exposed to UK IHT after leaving the country. While the old system had a fixed three-year tail, the new system can keep individuals in the IHT net for up to 10 years.
2. Graduated Approach: The new system introduces a more graduated approach based on the length of UK residence, potentially benefiting those who have been resident for fewer years.
3. Certainty for Some: The new rules provide greater certainty for individuals who have abandoned their UK domicile and acquired a non-UK domicile of choice.
4. Impact on Long-Term Residents: Those who have been UK resident for 20 years or more face the most significant change, with a 10-year tail compared to the previous 3-year rule.
5. Transitional Rules: There are transitional rules for certain non-domiciled individuals who were not previously exposed to IHT on their worldwide estates. These individuals may either not become long-term residents at all or have a maximum tail of three tax years.
6. Reset Period: The new rules require a longer period (10 consecutive years of non-residence) to completely reset one's status, compared to the previous system where the deemed domicile status could be lost after three years.

In summary, the new residence-based rules generally extend the period during which individuals leaving the UK remain exposed to IHT on their worldwide assets. This change particularly affects long-term residents and requires careful planning for those considering leaving the UK to manage their IHT exposure effectively.

Planning Considerations

1. Review and Update Wills: Existing wills should be reviewed and potentially updated to reflect the new IHT rules.
2. Business Succession Planning: For family businesses and farms, early succession planning becomes more critical due to potential liquidity issues arising from the new IHT liabilities.
3. Alternative Investment Strategies: Consider diversifying investments beyond AIM shares and traditional business assets to mitigate IHT exposure.
4. Gifting Strategies: Carefully plan any significant gifts, considering the seven-year rule and the new cap on reliefs.
5. Life Insurance: Consider life insurance policies written in trust to provide liquidity for IHT payments.

The new IHT rules create a complex landscape for estate planning especially for those wishing to leave the UK. It's crucial to seek professional advice to navigate these changes effectively and ensure your estate is structured optimally for your specific circumstances.