Your Essential To-Do List in Response to Key UK Inheritance Tax Changes

Insight | by Stephen Kiggins

Changes to the UK tax regime, including a shift to a 'residence-based' IHT system from April 2025, and how pensions are treated for the purposes of IHT from April 2027 - represent significant opportunities and challenges for British expatriates, and make it more important than ever to plan ahead accordingly.

Understanding UK Inheritance Tax (IHT)

IHT is a tax imposed by the UK government on the estate of someone who has passed away. Levied on their assets, including property, savings, investments and personal belongings, IHT is charged at 40% on the value of the estate, exceeding certain thresholds.¹

Change to 'Residence' Based IHT

From 6 April 2025, an individual’s IHT liability is now determined by whether they are a Long Term Resident [LTR] in the UK, predicated on the number of years they have lived in the UK - and conversely [and importantly for British expatriates, and those contemplating re-locating away from the UK] the number of years that they have been non-UK resident for tax purposes.

What does this mean for me?

This change to the IHT regime represents a fundamental shift in the UK government's approach to taxing expatriates, and effectively means that individuals who establish and maintain non-UK residence for tax purposes for 10 consecutive years will benefit from having their non-UK situs assets excluded from liability to IHT.

This change represents a significant opportunity from a financial planning perspective to mitigate your IHT exposure, working with a dual-qualified international financial planner to ensure that your wealth is passed on to your family and loved ones in the most tax efficient way possible.

Worked Example

Howard, a British national, has lived in Dubai for 8 consecutive years. He owns property and investments in the UAE worth £5 million, in addition to UK assets valued at £500,000. He has maintained non-UK tax resident status since his move.

Under the UK IHT regime, having been non-UK resident for just 8 years, Howard’s entire estate, including his UAE assets, would be subject to UK inheritance tax if he were to pass away today.

Taxable estate after 8 years of non UK-residence:

UK assets: £500,000
UAE assets: £5,000,000
Total = £5,500,000
Taxable amount = £5,500,000 - £325,000 = £5,175,000
IHT liability at 40% = £2,070,000 IHT payable

If Howard continues to maintain his non-UK tax resident status for a further two years (meaning that he had been non-UK resident for 10 years), his UAE (and any other non-UK) assets would be exempt from IHT. Only his UK situs assets would then be liable to IHT.

Taxable estate after 10 years of non UK-residence:

UK assets: £500,000
UAE assets: £0 (exempt after 10 years)
Taxable amount = £500,000 - £325,000 = £175,000
IHT liability at 40% = £70,000 IHT payable after 10 years of non UK-residence

IHT mitigation after establishing and maintaining non-UK residence for 10 consecutive years:

£2,070,000 - £70,000 = £2,000,000 saved in IHT

To reduce his IHT exposure further, Howard also discusses with his international advisor the re-distribution of his UK situs assets offshore.

Pension Assets Becoming Liable for IHT (Effective April 2027)

Currently, pension funds are excluded from IHT, allowing them to pass tax-free to beneficiaries. However, from April 2027, unused pension funds and death benefits will be included in an individual's estate and assessed for UK IHT purposes. They will no longer be exempt from IHT, and pension scheme administrators will be responsible for reporting and paying any IHT due on pensions to HMRC.

If the beneficiary is a higher or additional rate UK taxpayer, this could result in a combined tax rate of up to 67%, significantly reducing the value of the inheritance.

What does this mean for me?

If you think your own legacy planning might be implicated, the first step is to discuss the options with a dual-qualified international financial advisor, rather than rushing into making poor decisions without proper consultation.

It's also important to note that this change to the tax regime has not yet been formally written into legislation, so could still be subject to amendment between now and April 2027. By staying close to the developments and working with your financial advisor however, you will be better positioned to adapt and stay on track with your long-term financial goals.

Worked Example

A £500,000 pension fund inherited by an additional rate taxpayer could face:

1. An Initial IHT Charge of 40%
If IHT is due [because the value of the estate has exceeded the IHT nil rate band allowances] the pension funds would first be subject to the standard IHT rate of 40%, reducing the inheritance as follows:

Initial Pension Amount: £500,000
IHT at 40%: £500,000 x 40% = £200,000
Remaining Pension Funds After IHT: £500,000 - £200,000 = £300,000

2. Income Tax of up to 45% on Inherited Pension (if death occurs after age 75)
If the account holder's death is after the age of 75, the remaining inherited pension funds are subject to Income Tax at the beneficiary’s tax rate. If the beneficiary is an additional rate taxpayer, the income tax rate would be 45% [or 47% in Scotland]:

Amount Subject to Income Tax: £300,000
Income Tax at 45%: £300,000 x 45% = £135,000
Net Amount to Beneficiary: £300,000 - £135,000 = £165,000

Potential impact of new IHT rule in relation to pensions
From the original £500,000 pension funds bequeathed to the beneficiary, the beneficiary would ultimately receive only £165,000 after both IHT and Income Tax are applied, equivalent to an effective total tax rate of 67%.

Your to-do list

1. Review your current IHT exposure

Speak to a dual-qualified international financial planner to understand your current IHT exposure and explore estate planning opportunities arising from the Inheritance Tax changes.

Your estate planning should keep pace with your accumulation of assets, the evolution and growth of your family, and whenever there is a significant life event or milestone.

2. Plan ahead for pension IHT changes

From April 2027, pensions will no longer be exempt from UK Inheritance Tax. It's important to understand how this change could affect you.

Speak to a dual-qualified international financial planner to review your pension arrangements, drawdown and 'gifting' strategies, and your beneficiary nominations,

3. Confirm and maintain your non-UK resident status for tax purposes

If you are currently a British expat, or are considering re-locating from the UK, establishing and maintaining your non-UK tax resident status is a strategic priority - as returning to the UK could once again bring your overseas assets within the scope of IHT.

The UK Statutory Residence Test (SRT) determines your tax residence status, based on the number of days spent in the UK and other connecting factors. Failing to monitor your status using this test can result in an unintended return to UK tax residency. To see how the Statutory Residence Test works in more detail, and to confirm your own residence status, download our Statutory Residence Test Flowchart Guide.²

To understand more about establishing and maintaining your non-UK tax resident status, and how we can help you put in place a long term financial plan to manage and protect your wealth, contact us today to schedule an initial consultation.

Now, more than ever, it’s imperative to seek expert advice, and put in place a long term plan to establish and maintain your non-UK tax resident status, in order to preserve your wealth for your family and for future generations.

To speak with one of our expert advisors about your financial and inheritance tax planning, and how we can help you pass on your wealth to your loved ones in the most tax efficient way possible, contact us today to arrange a consultation.

¹ Currently, the nil-rate band (NRB) is set at £325,000, with homeowners passing their property to direct descendants benefitting from an additional £175,000 residence nil-rate band (RNRB). However, estates worth over £2 million lose £1 of the RNRB for every £2 over the threshold.

² HMRC Guidance Notes on the Statutory Residence Test [RDR3] are also available online.

This communication is for information purposes only and does not constitute financial, legal, or tax advice. Please schedule a meeting to receive advice on international financial planning and wealth management.