How Inheritance Tax is calculated
Inheritance Tax (IHT) is charged at 40% on the value of an estate that exceeds the available thresholds. The estate includes everything the deceased owned outright: property, savings, investments, vehicles, and personal possessions, less any debts. Jointly owned assets, pension funds (usually), and life insurance written in trust are treated differently.
The nil-rate band (£325,000)
Every individual has a nil-rate band of £325,000. No IHT is charged on this amount. The nil-rate band has been frozen at £325,000 since 2009 and is set to remain frozen until at least 2030, meaning more estates fall into scope every year as asset values rise. If gifts were made to individuals in the seven years before death, those gifts reduce the nil-rate band available on death on a sliding scale.
The residence nil-rate band (£175,000)
An additional £175,000 allowance applies where a residential property is left to direct descendants (children, grandchildren, stepchildren). This brings the total potential threshold for an individual to £500,000. The RNRB tapers by £1 for every £2 of estate value above £2 million, disappearing entirely at £2.35 million for individuals or £2.7 million for couples using both bands.
The spouse exemption
Transfers between UK-domiciled spouses and civil partners are completely exempt from IHT, regardless of the amount. More usefully, any unused nil-rate band and residence nil-rate band is transferred to the surviving spouse on death, potentially doubling the thresholds available on the second death. A widowed person could have a combined threshold of £1 million (£325,000 plus £325,000 transferred, plus £175,000 plus £175,000 transferred).
The seven-year rule
Gifts made more than seven years before death are exempt from IHT. Gifts made within seven years are potentially exempt transfers (PETs) and are included in the estate calculation, reducing the nil-rate band available. Gifts made three to seven years before death benefit from taper relief, reducing the effective IHT rate. The annual gift exemption of £3,000 per year is always free of IHT regardless.
| Allowance | Amount | Conditions |
|---|---|---|
| Nil-rate band | £325,000 | Per individual, every estate |
| Residence nil-rate band | £175,000 | Home left to direct descendants |
| Transferred nil-rate band | Up to £325,000 | Unused NRB from deceased spouse |
| Transferred RNRB | Up to £175,000 | Unused RNRB from deceased spouse |
| Spouse exemption | Unlimited | UK-domiciled spouse only |
| Annual gift exemption | £3,000 per year | Always IHT-free, can carry forward one year |
Pension funds and IHT: From April 2027, unused pension funds will be brought into the IHT estate for the first time. Currently, defined contribution pension pots left on death pass to beneficiaries free of IHT. The proposed change will include undrawn pension funds in the estate calculation. This is a significant shift that will affect many estates currently below the IHT threshold.
Frequently asked questions
No. Transfers between UK-domiciled spouses and civil partners are completely exempt from IHT regardless of size. However, the IHT liability is deferred rather than extinguished. When the surviving spouse dies, their estate includes the assets inherited from the first death, and IHT may then apply. The benefit is that the surviving spouse also inherits any unused nil-rate band and residence nil-rate band from the first death, potentially doubling the thresholds available on the second death. Careful planning of asset distribution across both deaths is the key to minimising overall IHT exposure.
Business Property Relief (BPR) provides 100% IHT relief on qualifying business assets, including shares in unlisted companies, interests in business partnerships, and certain business property. Shares in AIM-listed companies can also qualify. The business must have been owned for at least two years before death. From April 2026, HMRC proposes to cap BPR at 100% for the first £1 million of business and agricultural property, with only 50% relief above that threshold. This is a significant change that will affect family business succession planning.
IHT must be paid within six months of the end of the month in which the person died. For a death in January 2026, the deadline is 31 July 2026. Interest accrues from the due date on any unpaid amount. This creates a practical problem: probate cannot be granted until the IHT is paid, but the estate assets may not be accessible until probate is granted. Executors often use direct payment from the deceased's bank account or an HMRC instalment arrangement for property-heavy estates where liquid assets are insufficient.
Yes, within limits. The most effective strategy is outright gifts to individuals that survive the seven-year clock. Gifts made more than seven years before death are completely outside the estate. You can also use the annual gift exemption (£3,000 per year, plus any unused amount from the previous year), gifts from income (surplus income that does not affect your standard of living), gifts for weddings (up to £5,000 to a child, £2,500 to a grandchild), and small gifts of up to £250 per person per year. Each has its own rules. A gift with strings attached, such as living in a house you have given away, is a gift with reservation of benefit and does not work for IHT purposes.
Related calculators
Tax Toolkit UK provides free calculators for guidance purposes only. IHT is complex and individual circumstances vary considerably. Always consult a solicitor or tax adviser for estate planning.