When does the 4% Inheritance Tax (IHT) rate reduction apply in respect of charitable bequests on death?

This is a freeview 'At a glance' guide to Inheritance Tax (IHT) relief for charitable bequests on death.

At a glance

Where death occurs after 5 April 2012 and 10% or more of the net estate is left to charity, the charitable bequest is tax-free and the remainder of the estate will attract a 10% discount on the rate of IHT paid. This means it will attract IHT at 36% instead of 40%. 

Relief is given by splitting an individual's estate into three components. These are: 

  • Property that passes by survivorship, e.g. under a joint tenancy.
  • Settled property where the deceased had a right to income immediately before death.
  • The free estate that can be transferred by will or intestacy. 

The value of each component after deducting applicable liabilities, reliefs and exemptions other than legacies to charity, is calculated with a pro-rata share of the available IHT nil rate band. This is then compared to charitable legacies in each component. 

  • If the legacies are at least 10% of the value of the component they come out of, then the 36% IHT rate applies to that component.
  • Executors can also elect to merge that component with one or both of the others so as to extend the 36% rate to more of the estate, if charitable legacies add up to more than 10% of the combined components. The election must be made within two years of the date of death.

Where the reduced rate applies it is automatic though the relevant IHT forms must still be completed for the estate. It is possible to opt out of the reduced rate if this gives a more favourable result, such as where the cost of formal valuations exceeds the tax saved.

Basic example: free estate

John's estate comprises his house worth £500,000, shares in his family trading business worth £150,000, debts of £45,000 and funeral expenses of £5,000. He made gross gifts six months before his death of £25,000.

The minimum charitable donation that can be deducted from his estate on death in order to qualify for the 4% discount is calculated as:

House

 

       £

 500,000

Shares  150,000  

Less:

Business Property Relief

(150,000)  
Debts and funeral expenses    (50,000)
     450,000

Nil Rate Band

being £325,000 less £25,000

  (300,000)
    £150,000
Charitable donation 10%     £15,000

Note that this example ignores the Main Residence Nil Rate Band which might apply if the house passes to a lineal descendent.

Previously the courts have ruled that the charity must be subject to the jurisdiction of the UK or EU courts for the bequest to qualify for the discount. The Court of Appeal in The Executors of Beryl Coulter decided that Jersey was not part of the UK for these purposes. However, this decision was overruled by the Supreme Court in Routier and Anor v HMRC [2019] UKSC43 who found that this interpretation of charity contravened EU laws as to the freedom of movement of capital. As EU law takes precedence in areas of conflict between UK and EU law, the IHT relief could apply.

Finance (No. 2) Act 2023 has since restricted relief to UK charities. This applies to transfers of value made on or after 15 March 2023, unless the charity's status was agreed with HMRC as at that date, in which case a transitional period to 1 April 2024 applies. 

Gift Aid

Donors may be able to increase their charitable legacies by using Gift Aid, see: IHT: Lifetime charitable giving


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