Reviewed by James Badcock
The prospect of facing a hefty inheritance tax bill can be a concern for many of us with ageing parents in the UK, particularly as property prices have increased substantially over the years.
However, there is often confusion about how inheritance tax works, and also about what exemptions exist.
With good planning, there are various ways your parents can reduce their inheritance tax liabilities, but before diving into those, it’s important to first understand what inheritance tax is, how it works, and who might be affected.
Let us help clarify the basics of inheritance tax and how it works.
Note: The information provided in this article is for general informational purposes only and should not be considered a substitute for professional advice.
What exactly is inheritance tax?
Inheritance tax is a tax on the estate (money, property, and assets) of someone who has passed away. It is collected by HM Revenue and Customs (HMRC) and paid from the deceased person’s estate before anything is passed on to the beneficiaries.
The tax was originally designed to redistribute wealth, but whether it has achieved its intended effect is debatable.
According to statistics from GOV.UK, only around 4% of estates in the UK are liable for inheritance tax, which means it impacts a small proportion of the population. However, if your parent’s estate or the estate you are administering is one of those affected, it’s important to understand how the tax will be calculated and what can be done to mitigate its impact.
Who is subject to UK inheritance tax?
Who is subject to UK inheritance tax depends on a couple of key factors:
1. Residency status
As of April 6, 2025, UK inheritance tax is based on the residency of the deceased person (where they live or have lived) rather than domicile (where they’re originally from).
This means that if your parents have lived in the UK for at least 10 years, their worldwide assets could be subject to inheritance tax, regardless of where they were born. However, if they leave the UK and remain non-resident for 10 consecutive years, they will no longer be subject to UK inheritance tax on assets located outside the UK.
2. Taxable estate
Inheritance tax only applies if the taxable estate exceeds the inheritance tax threshold (nil-rate band).
Who actually pays the inheritance tax due?
A common misconception is that inheritance tax is paid by the person, or people, who inherit after someone dies. But that’s not the case. The person in charge of the estate (the executor of the will), will pay the payment from the deceased person’s estate before any inheritance is passed on.
As an executor, you’ll only need to pay inheritance tax if the estate is worth more than the tax-free threshold (known as the “nil rate band”). However, things can get complicated if the estate includes property or other non-liquid assets.
When does inheritance tax need to be paid?
HM Revenue and Customs expect inheritance tax to be paid, by the latest, six months after a person has died.
Although inheritance tax can be paid on some assets in instalments over ten years, interest will normally be chargeable, and you may still have some inheritance tax to pay within a relatively brief period of time.
How is inheritance tax calculated?
Inheritance tax is calculated based on the total value of a deceased person’s estate. Here’s how the calculation works:
The inheritance tax threshold (nil rate band)
- The nil rate band (threshold) is currently set at £325,000.
- Any value an estate has above £325,000 is subject to 40% inheritance tax.
Example
If the estate is worth £425,000, the inheritance tax would apply to the value exceeding £325,000, which is £100,000.
- In this case, the inheritance tax would be 40% of £100,000, which equals £40,000.
- This means the amount left to beneficiaries of the estate would be £385,000.
What exemptions and reliefs are there?
There are some exemptions and reliefs that can reduce the amount of tax due. These include:
Spouse or civil partner exemption
If your parent leaves their assets to their spouse or civil partner, the inheritance tax exemption applies, meaning no inheritance tax is due on those assets. However, if one of them is not a long-term resident in the UK, the rules can become more complex.
Additionally, because the nil rate band is not used, it transfers to the surviving spouse or civil partner, and can be available when they die. This means the nil rate band for the spouse of civil partner’s estate can be up to £650,000.
Example
If the surviving spouse’s estate is worth £800,000, the first £650,000 is exempt from inheritance tax, and only the remaining £150,000 will be subject to inheritance tax (at 40%).
Main residence nil rate band
In addition to the nil rate band, there is the main residence nil rate band.
If the value of the estate exceeds the nil rate band, and includes a main residence that is left to direct descendants (e.g., children or grandchildren), an additional £175,000 of the estate can pass tax-free. Like the standard nil rate band, this additional main residence nil rate band can be transferred to a surviving spouse or civil partner, if it wasn’t used on the first death.
However, there are some complexities to be aware of, and, and also the additional nil rate band ceases to be available in full if an individual’s estate exceeds £2m in value.
Other considerations that can impact inheritance tax
In addition to exemptions, there are other factors that can affect how inheritance tax is calculated, including lifetime gifts, trusts, and whether your parent has agricultural and business property:
Gifts and transfers to trusts
If your parent gives away money, property, or other assets during their lifetime – or transfers them into a trust – those transfers might still be counted when working out how much inheritance tax is due on their estate. This is because, under inheritance tax rules, certain gifts made in the seven years before death can still be taxed. These are called “potentially exempt transfers.”
Also, while making gifts can be a useful way to reduce inheritance tax, there are some important points to be aware of:
You can’t give something away but still benefit from it.
If your parent gives something away but continues to use or benefit from it, it may still be treated as part of their estate for tax purposes. A common example is when someone “gives” their house to their children but continues to live in it rent-free – in the eyes of HMRC, this isn’t a true gift and no inheritance tax saving would be made.
There’s a separate tax to catch arrangements like the above.
This is called the Pre-Owned Assets Tax (POAT). It’s a charge that can apply if someone gives something away but still uses it – such as living in a house they’ve supposedly given away. It’s designed to stop people sidestepping inheritance tax by gifting assets but continuing to benefit from them.
Care should be taken when making gifts to trusts.
While trusts can be a useful planning tool, putting assets into a trust can lead to an immediate inheritance tax charge of 20% on the value of the gift. This catches a lot of people by surprise, so it’s crucial to get advice before making this kind of transfer.
Agricultural and Business Property Relief (APR & BPR)
There are reliefs that reduce or eliminate inheritance tax on qualifying agricultural and business property. At the moment, these reliefs can provide up to 100% relief, which means that eligible assets – like a working farm or shares in a trading business – can often be passed down completely free of inheritance tax.
However, from April 2026, the rules are changing. A new £1 million cap will limit how much of the assets can benefit from the full 100% relief.
Here’s how it will work:
- The first £1 million of qualifying agricultural or business property can still get 100% relief, so no inheritance tax will be due on that portion.
- Any value above £1 million will only qualify for 50% relief, which means inheritance tax will be charged at 20% on the excess (since the standard inheritance tax rate is 40%).
Example:
Let’s say your parent* owns a farm worth £3 million, and it qualifies for agricultural property relief.
- The first £1 million of the farm’s value would still qualify for 100% relief, so no inheritance tax would be due on that amount.
- The remaining £2 million would only get 50% relief, so £1 million (i.e. 50% of £2 million) would be subject to inheritance tax.
- At the standard 40% rate, that means an inheritance tax bill of £400,000.
*If both your parents jointly agricultural or business property, each will have their own £1m allowance. The Government has also suggested that this allowance may be transferable between spouses, meaning up to £2 million could potentially qualify for full relief on the second death – but this has not yet been confirmed.
If your parents own business or agricultural property then the period before 6 April 2026 is a crucial time to get tax advice, because there may be planning which can be carried out before the new rules are introduced.
AIM shares
It’s also worth noting that from April 2026, some types of assets – such as AIM shares (shares in smaller companies listed on the Alternative Investment Market) – will no longer qualify for the 100% relief, even if their value is under £1 million. These types of investments will only receive 50% relief, whatever their value.
Inheritance from overseas
If you live in the UK and are expecting to inherit from a parent or older relative who lives abroad, whether or not UK inheritance tax applies depends mainly on how closely connected they are to the UK – especially where they’ve lived and for how long.
Here’s a simplified breakdown of the key scenarios under the current rules (as of April 2025):
If your relative has never lived in the UK and is not a British citizen, then UK inheritance tax usually won’t apply to their estate. But keep in mind that the country they live in may have its own inheritance or estate taxes, so it’s worth checking the local rules there.
If they’ve never lived in the UK but own assets here, then things get a bit more complicated. UK inheritance tax can still apply to UK-based assets (called “UK situs assets”), such as UK property or UK bank accounts.
- Assets held indirectly, like those owned through a non-UK company, are generally not taxable in the UK.
- Indirect interests in UK residential property – such as owning a UK home through an offshore company – can still be caught under the UK inheritance tax rules.
If they used to live in the UK but now live overseas, their worldwide assets may still be subject to UK inheritance tax, depending on how recently they left the UK and how long they were resident there.
Under the new residency-based rules from April 2025, if they were resident in the UK for at least 10 years out of the last 20 before death, they may still be considered connected enough to the UK for their estate to be subject to UK inheritance tax – even if they were living abroad at the time of death.
In summary
Inheritance tax can seem complicated, especially with changes in government policies and rules over time. However, understanding the basics and knowing how it applies can give you a clearer idea of what might be due when one or both of your parents or elder relatives pass away.
There are things that can be done while your parent is still alive to legally reduce inheritance tax, so it’s worth having a conversation with them about inheritance tax planning to understand what has been done or what might be done in the future to reduce the potential tax burden and avoid a hefty sum being owed to the government.
