How can I legally avoid Inheritance Tax on probate property?

According to HMRC, only 1 in 20 estates in the UK actually pay Inheritance Tax. But, Inheritance Tax is often a significant concern for anyone inheriting property, especially if the estate exceeds the £325,000 tax-free threshold. 

While Inheritance Tax can be avoidable for many estates, there are several legal strategies that can help reduce or even eliminate the tax burden on probate property.

With careful planning and a clear understanding of the tax rules, you can ensure that your beneficiaries receive the maximum inheritance possible, without the estate being significantly diminished by Inheritance Tax. 

In this article, we explore various ways to legally avoid or minimise Inheritance Tax on probate property, from making gifts during your lifetime to selling your house to a cash buyer.

How can you legally avoid Inheritance Tax?

Inheritance Tax may be charged on your estate when you pass away, if its value exceeds £325,000. However, there are several legitimate strategies that can help reduce or even eliminate tax burden. Understanding the available options and planning ahead can save your beneficiaries significant amounts. 

Below are some popular ways to legally minimise or avoid Inheritance Tax:

1. Avoid Inheritance Tax by gifting

One of the most effective ways to reduce your taxable estate is by making gifts while you’re alive. The rules can be complicated and not all gifts qualify for Inheritance Tax exemptions, so it’s important to understand them in detail.

• Annual gift allowance: You can gift up to £3,000 each tax year without it being subject to Inheritance Tax. If you didn’t use this allowance in the previous year, it can be carried forward, allowing you to gift up to £6,000 (£12,000 for couples).

• Small gifts: You can give up to £250 to as many people as you like each year, provided you haven’t used any other allowance for the same person.

• Wedding gifts: Parents can give £5,000, grandparents £2,500, and other individuals up to £1,000 free for Inheritance as a wedding gift.

• Larger gifts: If you give more substantial gifts and live for at least seven years after making them, the gifts will be exempt from Inheritance Tax. If you pass away within seven years, the tax may still be payable, though at a reduced rate depending on how many years you survived post-gift (known as taper relief).

You should keep a detailed record of the gifts you make to prevent future disputes and ensure that your beneficiaries can manage your estate efficiently.

There will be no tax on pay on the inherited property if it was given away 7 or more years before the death. If it was given away within 7 years, there will still be Inheritance Tax to pay, but it will be subject to the ‘7-year rule’.

The 7-year rule applies to ‘gifts’ that were given up to 7 years before passing. If in this time, the inherited property was gifted to someone, then it will be subject to tax, in accordance with the 7-year rule.

The amount of tax to pay following the 7-year rule will be calculated according to a sliding scale known as ‘taper relief’. The taper relief to calculate the percentage of tax payable is as follows:

2. Leave your estate to your spouse or civil partner

Spouses and civil partners benefit from generous Inheritance Tax exemptions:

• No Inheritance Tax between spouses: If you leave your estate to your spouse or civil partner, no Inheritance Tax is payable, regardless of the estate’s value.

• Double Nil-Rate band: Each person has a tax-free allowance of £325,000 (the nil-rate band). When one partner dies, any unused portion of their nil-rate band can be transferred to the surviving partner, potentially increasing their tax-free threshold to £6250,000.

If part of the first spouse’s estate was already gifted or passed on to others (e.g. children from a previous marriage), the unused portion will be proportionately reduced. Importantly, you pass on a percentage of your nil-rate band, not a fixed amount.

3. Donate to charity

Gifts to charities and political parties are completely exempt from Inheritance Tax. Moreover, leaving at least 10% of your net estate to charity can reduce the Inheritance Tax rate on the remainder of your estate from 40% to 36%. This not only supports causes you care about but can also significantly reduce the tax burden on your beneficiaries.

4. Pass your home to direct descendants

One key Inheritance Tax saving strategy involves giving your home to direct descendants or children and grandchildren.

• Main Residence Nil-Rate band: In addition to the £325,000 nil-rate band, there is a main residence nil-rate band currently set at £175,000 (per person) when your home is left to children or grandchildren. This increases the total tax-free allowance to £500,000 for individuals or £1 million for couples.

• Conditions: The estate must be worth less than £2 million for the full relief to apply. The main residence must be passed to direct descendants (including adopted, step-children, and foster children), not other relatives or friends.

5. Consider a retirement interest only-mortgage

A retirement interest-only mortgage allows you to release equity from your home while only paying the interest, leaving the capital to be repaid when you die or enter long-term care. 

This strategy can help reduce the size of your taxable estate while allowing you to pass on some inheritance to your family earlier. However, it’s important to seek the advice from a financial expert to ensure this is the right choice for you.

6. Maximise the benefits of your pension

Pensions have unique advantages in terms of Inheritance Tax.

• Tax-free pensions (before age 75): If you die before reaching 75, your pension can be passed on entirely tax-free.

• After age 75: Pensions are taxed at your beneficiaries’ marginal rate (usually 20%), which is lower than the standard 40% Inheritance Tax rate.

For this reason, it often makes sense to use other assets for living expenses, while keeping your pension intact for inheritance purposes. However, HMRC closely monitors attempts to exploit pension benefits solely for Inheritance Tax avoidance.

7. Use trusts for estate planning

Setting up a trust can remove assets from your estate, reducing the Inheritance Tax burden. Trusts are complicated legal arrangements, and different types of trusts offer different benefits:

• Discretionary trusts: Allow trustees to decide how to distribute the assets, potentially avoiding Inheritance Tax.

• Bare trusts: Hold assets for specific beneficiaries, and the assets will be outside your estate if you survive for seven years after placing them in a trust.

As trust laws are intricate, professional advice is essential to ensure the trust is structured correctly for your needs.

8. Make a will

Having a legally binding will is important in reducing your Inheritance Tax liability. It ensures that your assets are distributed according to your wishes and allows you to plan more effectively for potential tax savings. Without a will, your estate will be subject to intestacy rules, which could increase the Inheritance Tax bill.

9. Sell your house to a cash buyer before your death

If the value of your property is near the Inheritance Tax threshold of £325,000, selling your home to a cash buyer could be an option to reduce or avoid Inheritance Tax. 

Cash buyers usually offer 10% to 20% Below Market Value, meaning that you may be able to sell the property for less than the Inheritance Tax threshold. This could reduce the overall value of your estate and potentially eliminate Inheritance Tax liability altogether.

For example, if your home is valued at around £325,000 selling to a cash buyer for, say, £290,000 or £300,000 might lower your estate’s value enough to keep it within the tax-free nil-rate band.

Additionally, selling to a cash buyer could speed the sale process and ensure that the property is sold quicker, which could be beneficial if you are planning to redistribute your wealth during your lifetime.

How much Inheritance Tax do I need to pay?

The standard Inheritance Tax rate in the UK is 40%, and it’s applied only to the portion of your estate that exceeds the tax-free threshold, known as the nil-rate band, which is currently set at £325,000.

However, many estates avoid paying Inheritance Tax altogether due to exemptions and allowances. Usually, you won’t have to pay Inheritance Tax if:

• Your estate’s value is below the £325,000 threshold: In this case, no tax is charged, and your beneficiaries can inherit your assets tax-free.

• You leave everything above the £325,000 threshold to your spouse or civil partner: Assets passed between spouses or civil partners are fully exempt from Inheritance Tax.

• You leave everything above the threshold to an exempt beneficiary: Gifts to charities, community amateur sports clubs, and other exempt organisations are not subject to Inheritance Tax, meaning you can leave a portion or all of your estate to these beneficiaries without incurring tax.

• You give your home to your children or grandchildren: If you pass your main residence to your direct descendants (children or grandchildren, including adopted, foster or step-children), your Inheritance Tax threshold can increase by up to £175,000, making the total threshold £500,000.)

If the value of your estate exceeds the threshold, Inheritance Tax will only apply to the portion of the estate above the applicable nil-rate band. 

For example, if your estate is worth £525,000 and your standard nil-rate band is £325,000 the amount subject to Inheritance Tax would be £200,000, making the tax payable £80,000. Likewise, if you gave your estate to your direct descendants like a son, then the tax payable would be £10,000.

Do you have to pay Inheritance Tax on probate property?

Yes, Inheritance Tax must be paid on property included in an estate, and the payment of this tax is often required before the Grant of Representation or Grant of Probate is issued. This can delay the administration of the estate, as probate cannot be granted until HMRC confirms that the Inheritance Tax has been settled.

How is Inheritance Tax on property paid?

When an estate includes property, shares or other assets, the tax rules are slightly more flexible to accommodate the fact these assets may not be immediately liquid. Here’s how Inheritance Tax is usually paid in relation to property:

• Initial payment: You will usually be expected to pay 10% of the total Inheritance Tax due on the value of the property and shares within six months of the date of death, alongside full payment of any tax due on the rest of the estate, such as cash or investments.

• Instalments for property and shares: The remaining tax owed on property and shares can be paid in annual instalments over a 10-year period. However, if the property or shares are sold during this time, the outstanding tax must be paid in full immediately.

If the Inheritance Tax is not paid within the first six months after the date of death, HMRC will begin charging interest on the outstanding balance. This interest applies not just to property but also to any other part of the estate for which the tax has not been settled.

If additional assets are identified after the Inheritance Tax has been calculated and paid (or if the estate’s value was initially understated), it will be necessary to submit a corrective amount to HMRC.

This ensures that the full value of the estate is declared. If further tax is due based on this new information, the estate will need to make an additional payment. Conversely, if the estate was overvalued and too much tax was initially paid, the excess can be reclaimed from HMRC.

When do I need to pay Inheritance Tax?

While it’s possible to reduce or avoid Inheritance Tax with careful planning, in some cases the tax may still be due. Understanding the timeline and process for paying Inheritance Tax is important to avoid unexpected complications.

Inheritance Tax must be paid within six months of the person’s death. This responsibility usually falls to the executor of the will (or the administrator, if there’s no will). However, this short time frame can catch many people off guard, especially given that probate – the legal process of handling a deceased person’s estate – can often take longer than six months.

What are the challenges with paying Inheritance Tax?

Probate, which involves valuing the estate, paying debts and distributing assets, usually takes several months. It can often extend beyond the six month window required for paying Inheritance Tax. This delay can be problematic as the estate’s assets, which might be needed to cover the tax bill, may not be available for immediate use.

If the deceased’s main asset is a property, as is often the case, the executor may face a situation where they need to sell the property to pay the tax bill. Property sales can take time on the open market – sometimes several months or even longer in a sluggish market.

The Inheritance Tax, is still due within six months, regardless of whether the property has been sold. 

If the Inheritance Tax is not paid within the six-month deadline, HMRC will begin charging interest on the unpaid amount. This interest accrues daily, adding to the financial burden for the beneficiaries.

What can you do to manage Inheritance Tax?

HMRC allows Inheritance Tax on certain assets (like property) to be paid in instalments over ten years, with interest accruing on the outstanding balance, which can be helpful if the estate includes assets that take time to sell or are not easily liquidated.

Even if the estate hasn’t been fully valued within six months, executors can make a partial payment based on available information. This can prevent interest charges from accruing on the entire sum. It’s important to make these arrangements with HMRC to avoid unnecessary penalties.

Executors may be able to access funds from bank accounts or investments belonging to the deceased to cover the Inheritance Tax. Some banks allow direct payments to HMRC for Inheritance Tax from the deceased’s account before probate is granted.

In situations where the estate’s assets are tied up in property, some beneficiaries or executors choose to take out a short-term loan, or a bridging loan to cover the Inheritance Tax bill. Once the assets are liquidated, the loan can be repaid. However, this option should be used cautiously, as it introduces an additional financial obligation.

To avoid a stressful scramble when Inheritance Tax is due, it’s important to plan in advance. This may involve ensuring that assets are sufficiently liquid or that family members are aware of the potential need for a quick sale via a cash house buyer.

Can I line up a buyer before I pay Inheritance Tax?

Yes, you can line up a buyer for an asset before paying Inheritance Tax – in fact this is a recommended route to sell a probate property. The value of the asset used for Inheritance Tax purposes is the market value at the date of death, not the sale price. Even if you have a buyer ready, the Inheritance Tax liability is based on the asset’s value when inherited.

If the estate does not have sufficient liquid assets to pay the Inheritance Tax upfront, some flexibility is available. For instance, if you’re selling a property to cover Inheritance Tax, HMRC may allow payment of the Inheritance Tax bill in instalments over 10 years, with interest charged, while waiting for the sale.

Finding a buyer and going through the sale process (but not completing) before paying Inheritance Tax is common, especially if it helps to line up the funds needed to settle the tax. However, you need to ensure that all tax obligations, including Capital Gains Tax, if applicable are considered. 

While you can line up a buyer, you should not transfer ownership of the asset until Inheritance Tax is settled or proper arrangements are made with HMRC. Transferring an asset before paying Inheritance Tax could lead to complications with HMRC.

Who are the best buyers for inherited property?

When selling an inherited property, particularly one going through probate, cash house buying companies often prove to be the best option. These companies offer a faster sales process compared to traditional buyers. 

While selling through estate agents can take over 91 days, cash buyers, like The Property Buying Company, can complete the transaction in as little as 7 days. This speed is especially valuable when you need to quickly liquidate the property and settle any related matters.

Another key advantage of selling to a cash buyer is the potential to reduce or avoid Inheritance Tax, particularly if the property’s value is near the £325,000 threshold. Cash buyers usually offer 10% to 20% below market value, which can bring the estate’s value under the tax-free limit. 

For example, selling a £380,000 property to a cash buyer for £323,000 (a 15% reduction or £570,000 below market value) could result in substantial savings compared to selling on the open market. While selling at full market value might seem more profitable, you will likely owe £22,000 in Inheritance Tax (40% on the £55,000 above the tax threshold).

This doesn’t account for additional costs such as estate agent fees, probate solicitor fees, selling solicitor fees, and holding costs — including utility bills and administrative expenses — that accumulate over the three to twelve months it usually takes to sell the property.

In contrast, as a cash buyer we could complete your house sale in just 7 days, avoiding these ongoing expenses and providing quicker financial relief. One thing to note is that, as the buyer, we assume responsibility for paying Stamp Duty, which is already factored into our offer, further reducing your financial obligations and simplifying the sale process.

In addition to speed, we can provide certainty and reliability. Unlike traditional buyers who may depend on mortgage approvals or financing, we have the funds ready and can proceed immediately after probate is granted. This preparedness helps avoid delays and the risk of the sale falling through, providing peace of mind during a potentially stressful time.

Furthermore, here at The Property Buying Company, we can offer further financial relief by covering all legal fees and associated costs of the sale. This means you won’t need to worry about solicitors or selling fees, helping to ease the financial burden on the estate.

While cash buyers do offer below market value, the benefits we provide — speed, convenience, and certainty — often make us the best option for probate properties. Selling to The Property Buying Company can be your ideal solution for managing the sale of an inherited property.