The Residence Nil Rate Band – a common misunderstanding
13 March 2019 by James Bird
Before April 2017, the inheritance tax rules for an estate was that a deceased gets a tax free allowance (called the Nil Rate Band – NRB) of £325,000. Anything which passed between spouses/civil partners on the first death was exempt and then the surviving spouse/civil partner could transfer on their death any unused allowance from the first death. This meant that married couples would have a tax allowance of up to £650,000
In April 2017 the government then introduced the Residence Nil Rate Band (RNRB). Starting off at £100,000, and increasing by £25,000 each year until 2021 to a maximum of £175,000. This provides an additional tax-free allowance to estates. Much like the NRB, the RNRB is transferable between spouses/civil partners on death.
However, there are requirements for the RNRB to be claimed and two of the key points are:
- A Qualifying Residential Interest (QRI) must pass as part of the estate. This is a property/ interest in a property which has been occupied by the deceased as a residence at some point
- The QRI must be closely inherited. This means that the interest must pass to a lineal descendant; this can be a child or grandchild, or between children or grandchildren. The term ‘closely inherited’ has also been defined for this purpose. It is used to include step-children and step-grandchildren, as well as spouses/widows of children/grandchildren. HMRC provides more detailed guidance on who would qualify as closely inheriting.
The RNRB is still relatively new. As such there has been much debate over circumstances when this allowance can and cannot be claimed for an estate.
One of the biggest issues that has arisen is when trusts are involved. There are very limited circumstances in an estate when a property passes into a trust that it will be able to benefit from the RNRB.
The trusts which can benefit are those…
- which explicitly state a lineal descendant as the beneficiary and the beneficiary cannot be changed.
- that leave assets for the benefit of a spouse/civil partner (or lineal descendant) for the rest of their life before the assets in trust then passing outright to lineal descendants.
- where the beneficiary is mentally or physically disabled.
- where the beneficiary is a minor (ie under the age of 18) when the parent dies. Trusts by parents for children can have assets held in trust up to the age of 25.
This means that trusts where the trustees decides who the beneficiaries of the trust are (discretionary trusts) cannot benefit from the RNRB. Even if there is a letter of wishes expressing that the trust is to be used for the children or grandchildren. Trusts for grandchildren which specify an age to inherit also lose the RNRB; this is because the trust cannot have a contingency should the beneficiary still be underage at the time of passing. This does not include trusts from parents to children where they inherit between the ages of 18-25.
Property in Trusts
Many couples nowadays who own their own properties are also including life interest trusts in respect of their property; since it is their main asset. This is usually done to protect their assets so it passes to their children or grandchildren. A life interest trust means that the share of the property is held on trust to allow someone (the life tenant) to live in the property after the person has died. When the trust then comes to an end, the share of the property in trust then passes to the beneficiary.
This trust means that the share of the property is never owned by the life tenant and as such, they cannot change where the share of the property then goes after they die. Whilst spouses/civil partners would not have any problems with this since the RNRB is transferable between married couples, this is not the case for unmarried couples.
Life Interest Trusts
If you were to leave your share of property on life interest trust so your partner (not married) could live in it for the rest of their life before the share of the property then passes to your children, you would not be able to claim the RNRB. The RNRB could only be claimed if the life tenant was a lineal descendant; a partner would not classify as a lineal descendent. Although the property may pass to a lineal descendant after the trust ends, this does not matter. The life tenant must be a lineal descendant. This could then mean that the RNRB may be lost for the estate of the deceased without the proper planning. This principle also applies to trusts which give a right of occupation. The person given the right to occupy must be a lineal descendant otherwise the RNRB is lost.
Amending an Estate
Sometimes it is possible for action to be taken after a person dies to amend their estate in order to allow the estate to qualify for the RNRB but this is when legal advice should be sought. Legal advice is also strongly recommended when it comes to drafting your Will as inheritance tax is always discussed alongside this.
The RNRB is without a doubt a complex allowance. And whilst there is a lot of information about it, it is still a mystery with many questions remaining unanswered. This blog is just a brief summary of one aspect of the allowance. More detailed information can be found with HMRC.
If you ever have any questions about the RNRB or the drafting of your Will to ensure your estate can benefit from it then we would, of course, be happy to assist, please contact Fisher Jones Greenwood on 01206 700113 or email [email protected] to arrange a mutually convenient appointment.