Reach newsletter summer 2012

How to bypass inheritance tax (IHT)

In the event of a loved one passing, and in order to avoid a costly inheritance tax bill, a bypass trust can be set up to receive the death benefits of a pension scheme.

Once the bypass trust has received money from an estate, the trustees can use their discretion to pay benefits to any potential beneficiaries.

The use of the trust avoids any death benefits passing directly to the surviving spouse, which consequently avoids those benefits forming part of their estate when they die. This could save up to 40 percent IHT.

The surviving spouse can benefit from the trust, which is often done by way of interest-free loans. On the death of the surviving spouse, any loans become a debt on the second estate, which consequently reduces its value and potentially saves IHT.

Example

Mr Reeves dies and leaves his estate to his wife.

The value of his estate (excluding pension benefits) is £750,000.

In line with his wishes, his pension fund is to benefit his wife. It is worth £200,000.

His wife spends £100,000 of the pension benefits before her death.

Mr Reeves’ IHT nil rate band passes to his wife on her death such that her estate benefits from two nil rate bands.

Situation without bypass trust

Mr Reeves dies leaving estate to wife£750,000
Pension death benefits to wife£200,000
Total estate£950,000
Mrs Reeves spends(£100,000)
Estate on death of Mrs Reeves£850,000
Minus 2 x nil rate bands(£650,000)
Taxable estate£200,000
Tax at 40 percent£80,000

 

Situation with bypass trust

Mr Reeves dies leaving estate to wife£750,000
£200,000 pension death benefits to trust
Trustees lend £100,000 to wife£100,000
Estate on Mrs Reeves death£750,000
Minus loan(£100,000)
Equals£650,000
Minus 2x nil rate bands(£650,000)
Taxable estateNil

 

The spousal bypass trust has saved £80,000 of IHT.

Not all types of pension can benefit from this type of trust, but to find out if yours does, please contact Lee Hayward on 01227 768231 or email lee.hayward@reeves.co, tick the relevant box on Response, or talk to your usual Reeves contact.