How to calculate inheritance tax on property

Inheritance tax on a property is something most people hope they never have to deal with because it is the tax paid on the estate of someone who has passed away. In some situations, there is no inheritance tax to pay whereas in others there are rules around paying in certain ways and at certain times.

Read on to clear up any confusion you may have surrounding how to pay inheritance tax on a property. You may want to know so you can prepare yourself for the future or you may want to know to make sure someone you love has the right paperwork set up for their estate if they were to pass away soon.

What does inheritance tax on a property mean?

Inheritance tax on a property is sometimes written in abbreviated form as Inheritance tax. It is important to distinguish between the inheritance tax paid on a property and any additional inheritance tax someone might pay on the possessions and money they owned. Known as their “estate” even though they are often thought about as one.

While an estate and a property are different, inheritance tax is still paid taking into consideration all of the assets in an estate combined, including property. Which is why you cannot completely separate the two.

What is classed as someone’s estate?

Inheritance tax paid on someone’s estate included more than just the tax paid on a property. It includes the savings someone has, their possessions including the property, their pension fund (in certain cases) and the value of any money or property given away during seven years after death.

How much inheritance tax do you have to pay?

Usually, inheritance tax on a property is paid based on anything above the threshold for inheritance tax which is £325,000. This is known as the nil rate band. There are also additional bands in place depending on if you are a resident, individual or couple which may reduce the amount of inheritance tax you have to pay on a property.

What were the inheritance tax property rates?

What are the inheritance tax property rates in 2023?

As of 2023, there is still a 40% rate that is charged on everything that is above the threshold of £325,000.

So, for instance, if someone were to die in 2023 with an estate worth £600,000, IHT would be charged at 40% on everything above the rate. So £275,000 will be taxed.

Who is responsible for paying inheritance tax?

Most of the time, if there is a will that the deceased person who owned the estate has left behind. This will have to be given to an executor who will organise the payment of inheritance tax. If there is no will from the person who has passed away then inheritance tax on a property must be managed by the administrator of the estate.

The executor will eventually sell the property after paying inheritance tax on a property to make way for further property planning by the government after giving the property a category known as a use class order.

Inheritance tax on a property can also be paid from the money raised in the sale of the property or from equity within the estate.

Nonetheless, Inheritance tax is paid through the Direct Payment Scheme (DPS) the majority of the time. This means that the deceased individual has equity in the bank or in a building society and the individual tasked with processing inheritance tax can then get paid from the account where the money is directly from the direct payment scheme.

In rare cases, someone who has passed away will leave money aside in order to pay their inheritance tax on a property. Commonly, this is arranged by a life insurance company that will step in to pay for inheritance tax when the person dies. This is dependent on the deceased person consistently paying their insurance payments nonetheless.

If the life insurance policy was taken out in a trust, this is the best way to pay for insurance without the insurance itself being subject to inheritance tax. In addition, paying for insurance in this method is the best way to avoid a probate process that can last a long time when paying for inheritance tax on a property.

When do you start paying IHT?

In the United Kingdom, inheritance tax is generally paid on the value of an estate when someone passes away and is expected to be paid within the same or the following tax year by filling out this form.

This is based on whatever rate that you fall into. For instance, the nil rate band is £325,000. This means that if the total value of the estate (including property, money, possessions, and investments) is below this threshold, there is typically no inheritance tax to pay.

What is an IHT 400?

The IHT 400 refers to a specific form used in the United Kingdom for reporting and paying inheritance tax. “IHT” stands for Inheritance Tax, which is a tax imposed on the estate (property, money, and possessions) of an individual who has passed away.

The form is submitted to Her Majesty’s Revenue and Customs (HMRC), the UK government’s tax authority, along with any required supporting documents and payment of the inheritance tax liability.

It is essential to accurately complete the IHT 400 form to ensure compliance with the inheritance tax regulations and fulfil the legal obligations related to the deceased person’s estate.

What do the heirs have to pay when they inherit a property?

If inheritance tax is paid before the estate is passed down to whoever is given them, then the heir will be able to gain access to any property after tax. However, it is understandable if you are wondering if there are any further taxes the heirs have to pay after this point.

There are two types of tax that heirs are subject to as a result. This is income tax and capital gains tax. Income tax must be paid if the property they inherited produces an income that is profitable. For example, if there is a property with a tenant in it that produces £10,000 per year, this income will have to be taxed at these rates of income tax.

Also, if they inherit this property and then they sell it, the heir will also have to pay inheritance tax. The amount of capital gains tax that is paid depends on the rate of personal income tax that they pay too.

Having said this, if the property is protected in a trust, this can result in the heir having to speak to a solicitor or legal advice consultant because the law surrounding this is very complicated and each situation is different.

Are the rules different for married people?

There is usually no need to pay inheritance tax on a property if you are a married couple and one of the spouses has died. The same is also true for civil partnerships. This is because instead of the property being inherited it is instead transferred to the surviving partner and inheritance tax on a property does not apply to transfers.

In addition, the partner who has passed away will not have used any of their nil-rate band. This means the partner who is still alive can add this balance to their own which will double the threshold for paying inheritance tax.

The nil rate band is the amount of money you can transfer through assets without creating an inheritance tax bill. This bill is set to £325,000. As a result, when a partner dies in a marriage or civil partnership, the partner that is still alive will have a new nil rate band of £750,000.

However, this has to be considered individually as if you have used a nil-rate band to make a gift transfer during your lifetime, then you have reduced this nil-rate allowance. If you have died within seven years of making those gifts then the gift amount would be taken away from the nil rate.

What happens if you inherit your parent’s home?

Usually, a house has to be inherited by the children of someone who has died if it is written in a will. If this is the case and you are over the age of 18, you will usually have to pay inheritance tax on a property. Like a lot of different taxes such as stamp duty and land tax, there is a threshold you have to meet before tax is eligible to be paid to the government.

This threshold is £325,000. Having said this, there is a chance that even if the property value that was given to a child is over this threshold no inheritance tax on a property will have to be paid. This is because the nil-rate band adds another £175,000 on top of this £325,000 amount so the property may still be in the 0% threshold. 

What happens if a single parent dies and there are children?

In this case where there is one person who survived and the other dies, then the estate had to be worth more than £270,000 before the children are able to claim any of the money that is inherited. 

This means when the estate does exceed this value, the children would be eligible for anything over this threshold and if this is still under £325,000, no inheritance tax on a property must be paid.

If there is one child, the inheritance will only have to be split one way, if there are two children, the inheritance can be split two ways and if there are three children then the inheritance has to be split three ways etc.

To give an example of how this may work in real life, a parent with a spouse and two children dies with an estate worth £300,000, the other parent inherits £270,000 and then the children inherit a combined £30,000 in total. Each child will have an inheritance of £15,000. 

It is useful to note that the children will ot have access to these funds until they are 18 years of age and these numbers will change as soon as the property is over the threshold for inheritance tax on a property is passed.

In the rare instance where someone with grandchildren has passed away and the parents and the children have also passed away before them. Then the estate will be passed down to the grandparents. 

What if both parents pass away in a family with children?

In this case, the solution to this situation is quite simple. The children of the estate will automatically inherit everything as a collective. This includes any property that the parents owned. Having said this, this will bring in a whole host of other issues where there are multiple children who become the new owners of the property and there are therefore more things that can go wrong.

If one child chooses to sell the property and the others do not, this can cause conflict. Either way, before the property is passed down, inheritance tax on a property will need to be paid. This follows the same laws where if the property and the estate is over the value of £325,000, tax will be paid at a rate of 40% on anything above this threshold.

What happens if the children are adopted or there are step-children from a previous relationship?

Interestingly, children that are adopted or are from a previous relationship are treated the same as if they were biological children. However, this is not the case one hundred percent of the time because stepchildren have to be written on the will for this to be the case.

However, if you are a step child but you’re still “legally adopted” which you can find out about if you are or not here on the government website. Then, the rules will apply if you were adopted and you will be treated as though you were a biological child to the deceased even if you are not.

Despite this, any child who inherits an estate or part of an estate will have to wait until they are 18 to get the rights to manage the property, potentially sell it, collect any rental income or take back the deposit on the property.

What happens if the owner of a property dies but the child is too young to take over?

In the case where a landlord has died and the property is legally able to be passed down to the child, you may be wondering how inheritance tax is paid for a property like this. Well, the inheritance tax is not paid until the child reaches the legal age of 18 in order to take over the premises. 

In between this time, it is up to the job of an executor who is paid by the government (and funded by council tax) to enforce billing for the property and make sure the property business carries on as normal. This includes making sure there are sufficient gas safety and electrical safety certificates in the property.

As well as this, there should be up to date property documents the letting type should be enforced to how the owner of the property originally had the property set up. This would make inheritance tax on a property easy to be paid when the child does take over.

When should you pay inheritance tax?

Inheritance tax must be paid within six months of a person’s passing, or interest will be charged by HMRC. The executor can opt to pay the tax on certain assets, such as real estate, in ten instalments, but interest will still be charged on any unpaid taxes. 

If the estate overpays inheritance tax after receiving probate, HMRC will reimburse it; however, the executor must submit an account of the estate within a year of the person’s passing to avoid a fine and it is recommended for an executor to pay at least some inheritance tax on a property within 6 months to open the “payment on account”.

Before any payments are made, the executor of a family member must confirm they have the right to manage the estate of the deceased by applying for a probate which is also known as a confirmation in Scotland. This works in a similar way to show you have proof of ownership of a property.

How can you value how much an estate is worth?

To find the estate value, you must calculate the net value of all of the assets that fall under the name of someone who has passed away. This means adding up the value of the estate and then deducting all of the expenses from the person including any debts of the person too.

For example, if the total amount of money that the person had in their bank account was £30,000, they had £15,000 worth of debt and the total value of their house was £150,000, this would mean there would have to be some calculations that have to be done.

First of all, you must add together the total value of the property and the amount of money they have in the bank which would be £180,000, then deduct debts from the portfolio of the person to get a value of £150,000. 

In order to calculate the value of a property, someone who is able to, whether that be the executor or a living relative will need to apply for a probate. This gives them the right to manage the possessions of someone who has passed away. Then the value of the house can be given by a surveyor who will give an accurate value of the possessions.

As the inheritance is passed down, the inheritance tax on a property will have to be paid during this process. After this tax is paid, there will be a new owner of the possessions of the estate.

Are there any exemptions from inheritance tax on a property?

There are a few ways to make sure you avoid inheritance tax on a property or at least as much of it as you think you need to. Unfortunately, even after you die, there is a tax you have to pay on property and this may prevent those on your will from being able to get access to as much value on your estate as you like.

First of all, the first thing you can do in order to prevent yourself from paying too much inheritance tax is to use an inheritance tax calculator. This will give you an idea of who you have to pay before you die so you can make any changes. Other than this, here are a few ways to reduce your inheritance tax bill.

Make a will for your relatives

Wills are important because they are an important part of estate planning as they are able to be followed by the executor or your relative after you die. To reduce your inheritance tax bill, you can make sure that a spouse gets the money in the will or make sure that certain things are given away.

Make sure your possessions are under the inheritance tax threshold

If you are sure what the value of your estate is before you die, you can make sure that your estate is valued under what you expect to be taxed so you don’t end up paying a lot of tax at the 40% inheritance tax threshold on a property.

For example, the inheritance tax threshold on a property and the estate of a deceased person are £325,000. However, there is a chance that the inheritance tax on a property is able to be reduced by giving anything above the threshold away or putting it in a trust.

Place your assets into a trust

If you are concerned about the assets that you have been taxed, you can put them in a trust and still allow those on your will to benefit from the income they produce. This is great if you have a family you want to take care of or perhaps there are businesses or charities that you’ve started that may need additional funding after you pass away.

See if you qualify for business property relief (BPR)

The availability of Business Property Relief (BPR) depends on various conditions and criteria. To qualify for the relief, the business asset must have been held for a minimum period, typically two years or more. 

Additionally, the business should be engaged in the letting of furnished holiday accommodations. Certain types of businesses, such as those mainly involved in dealing in securities, land, or making or holding investments, do not generally qualify for BPR.

Nonetheless, Business Property Relief (BPR) is a tax relief available in the United Kingdom that can help reduce the inheritance tax liability on certain types of business assets when they are included in an individual’s estate upon their death.

How can you reduce the amount of tax you have to pay for gifts?

When you are inheriting anything, the figure you have to pay for inheritance tax on a property may be impacted by the number of gifts you have sent in the seven years before death. The closer the date was to when gifts were exchanged to when the person passed away, the more the amount of the effective rate charged.

Using the table below you can see how inheritance tax on a property can be impacted.

Table on the rate charged based on the length of time after the donor’s death

To conclude

All in all, inheritance tax must be scrutinised in order to work out if you need to pay it as it can be difficult to work out if inheritance tax on a property should be paid or not. Adding to this, it is important to consider the entire estate of the deceased rather than just the property in question as this will impact tax too.