The current regime for inheritance tax (IHT) enables the transfer of unused nil-rate band from a deceased spouse or civil partner to the estate of the surviving spouse or civil partner who dies on or after 9th October 2007. (The nil-rate band is the level below which no IHT is payable and currently stands at £325,000. Every person has this sum as an allowance against their estate on death and only the element of the estate above the nil-rate band is subject to IHT).
Prior to this new regime, because gifts between spouses (or civil partners) are free of tax, the first spouse or civil partner to die wasted his or her nil-rate band. Complicated wills were necessary to avoid this loss of allowance. The new rules are best illustrated by the following example:
Mr A died last year and left his entire estate to his wife, Mrs A. Because of the spouse exemption, Mr A did not use any of his nil-rate band which then stood at £300,000. Mrs A survives for some years and, when she finally dies, let us say that the nil-rate band has risen to £400,000. She leaves her entire estate, valued at £600,000, to her children. Ostensibly, Mrs A’s estate will have a tax bill of £80,000 (£600,000.00 – £400,000 nil-rate band = £200,000.00 x 40%). However, because none of Mr A’s nil-rate band was used on his death and because Mrs A dies after 9th October 2007, Mrs A’s estate can claim to have her nil-rate band effectively up-lifted by 100%. This means that her estate can enjoy a nil-rate band of £800,000.00 and therefore have no tax to pay.
If Mr A had used 50% of his nil-rate band, Mrs A’s estate would then, upon application, be able to enjoy an up-lift on her nil-rate band of 50% (being the un-used 50% from Mr A’s estate) giving a total allowance on Mrs A’s estate of £600,000.00. Again therefore, no tax to pay.
It can be seen therefore that it is not simply a question of using the un-used nil-rate band from the first deceased’s estate. Rather the nil-rate band applicable to the second deceased’s estate (whatever that transpires to be) can be up-lifted by the proportionate part of the un-used nil-rate band of the first.