How Inheritance Tax Works in the UK
Inheritance tax (IHT) can take up to 40% of an estate above the tax-free threshold. Understanding the rules means most people can plan to reduce or eliminate the bill entirely.
What is inheritance tax?
Inheritance tax is charged on the estate (property, money, and possessions) of someone who has died. In the UK it applies to estates valued above a tax-free threshold called the nil-rate band. The rate is 40% on the amount above the threshold.
IHT is paid before beneficiaries receive their inheritance. The executor of the estate is responsible for filing the return and paying any tax due, usually within 6 months of death.
Only around 4% of UK estates pay IHT
Most estates are below the threshold. But for those with property, the numbers can add up quickly. A £600,000 house and modest savings could push an estate well into IHT territory without careful planning.
The nil-rate band: your tax-free threshold
The nil-rate band (NRB) is the amount of your estate that can be passed on free of IHT. For 2026/27 this is £325,000. It has been frozen at this level since 2009 and is due to remain frozen until at least April 2030.
Everything above £325,000 is taxed at 40%. So on an estate worth £500,000 with no reliefs, IHT would be: (£500,000 − £325,000) × 40% = £70,000.
| Allowance | Amount | Who qualifies? |
|---|---|---|
| Nil-rate band (NRB) | £325,000 | Everyone |
| Residence nil-rate band (RNRB) | £175,000 | Leaving home to direct descendants |
| Transferable NRB (spouse) | Up to £325,000 | Surviving spouse inherits unused NRB |
| Transferable RNRB (spouse) | Up to £175,000 | Surviving spouse inherits unused RNRB |
| Combined maximum (married couple) | £1,000,000 | Both NRBs + both RNRBs |
The residence nil-rate band
The residence nil-rate band (RNRB) is an additional £175,000 allowance available when you leave your main home to a direct descendant (children, grandchildren, step-children, or their spouses/civil partners).
Combined with the standard NRB, it gives each person an effective threshold of £500,000 (£325,000 + £175,000) when passing property to direct descendants. For a married couple, both allowances transfer on first death, creating a combined threshold of up to £1,000,000.
RNRB is tapered for larger estates
If the net estate exceeds £2,000,000, the RNRB is reduced by £1 for every £2 above this threshold. An estate worth £2,350,000 or more receives no RNRB at all. This taper was introduced to restrict the benefit to middle-income estates, not the very wealthy.
The spouse and civil partner exemption
Transfers between married couples and civil partners are completely exempt from IHT, regardless of the amount. If your entire estate passes to your spouse on your death, no IHT is due.
This exemption does not apply to unmarried partners, no matter how long they have lived together. This is a common planning issue: cohabiting couples may face a much larger IHT bill than a married couple in the same circumstances.
When the first spouse dies and leaves everything to the surviving spouse, their unused nil-rate band and unused RNRB transfer to the survivor. The surviving spouse effectively has double the allowances available on their own death.
Gifts and the 7-year rule
Gifts made during your lifetime are potentially exempt from IHT. If you survive 7 years after making a gift, it falls outside your estate entirely and no IHT is due on it.
If you die within 7 years, the gift may be subject to IHT. However, taper relief reduces the tax due on gifts made 3–7 years before death:
| Years before death | Tax rate on gift |
|---|---|
| Less than 3 years | 40% |
| 3–4 years | 32% |
| 4–5 years | 24% |
| 5–6 years | 16% |
| 6–7 years | 8% |
| More than 7 years | 0% |
There are also several annual gift allowances that are always exempt from IHT regardless of the 7-year rule:
- Annual exemption: £3,000 per person per year (unused allowance from the previous year can be carried forward once)
- Small gifts: up to £250 per person per year (to any number of people)
- Wedding gifts: £5,000 to a child, £2,500 to a grandchild, £1,000 to anyone else
- Gifts out of income: regular gifts funded from income (not capital) can be exempt if they don't reduce your standard of living
Pension pots and IHT (from April 2027)
Currently, defined contribution pension pots (workplace and personal pensions) are outside your estate for IHT purposes. This makes pensions a highly tax-efficient way to pass wealth to the next generation.
Important change from April 2027
The government has announced that unused pension pots will be brought within the scope of IHT from April 2027. This is a significant change for estate planning and may affect how you structure pension drawdown. The rules are still being finalised; check HMRC guidance closer to the date.
Charitable giving and the 36% rate
If you leave at least 10% of your net estate to a qualifying charity, the IHT rate on the remaining taxable estate is reduced from 40% to 36%. This can mean that a relatively modest charitable bequest significantly reduces the overall IHT bill.
For example, on a taxable estate of £200,000, leaving £20,000 (10%) to charity reduces the remaining £180,000 to a 36% rate, giving tax of £64,800. Without the charity gift, tax would be £80,000. The net cost of the £20,000 charity gift is only £80,000 − £64,800 − £20,000 = a saving of £14,800.
How to reduce an inheritance tax bill
Use annual gift allowances every year
The £3,000 annual exemption removes gifts from your estate immediately. Over 10 years, a couple can give away £60,000 tax-free using this allowance alone. Many people forget to use it consistently.
Start making larger gifts early
Potentially exempt transfers (gifts over £3,000) become fully IHT-free once you survive 7 years. The earlier you start, the more time there is to get gifts outside the estate.
Write your pension nominations up to date
Pension pots currently pass outside your estate if you have an up-to-date nomination form with your provider. Review these every few years, especially after major life changes.
Consider a will and trust structure
Life insurance can be written into trust so the payout falls outside your estate. Discretionary trusts can also shelter assets from IHT while maintaining some control over how and when beneficiaries receive money. Take legal advice before setting one up.
Business Property Relief (BPR)
Qualifying business assets (including AIM shares held for 2+ years) can qualify for 50% or 100% IHT relief. This was a popular planning tool but relief on AIM shares is being restricted from April 2026. Seek specialist advice for business-related IHT planning.