If you sell your house to pay for care or to downsize, will your inheritance tax allowance be reduced?

A little-known benefit called downsizing relief can save your loved ones tens of thousands of pounds in inheritance tax after you pass away

If you decide to sell your house to pay for care or downsize to a less expensive property, you may be concerned that you will lose important inheritance tax (IHT) allowances.

According to a Suffolk Building Society analysis, over six million adults are considering or intend to downsize at some point over the next four years.

However, experts say that downsizing reliefthe ability to claim inheritance tax relief based on the value of your prior homeis not well known, which could lead to an excessive tax bill being imposed on your estate upon your death.

We describe how downsizing relief operates and how it also affects people who have moved into care and no longer own a home.

What is the nil rate band for residence?

Thanks to a tax-free benefit known as the nil rate band, inheritance tax is only due on estates worth more than £325,000.

Additionally, qualifying homeowners can pass on up to 175,000 of their home's value as an additional tax-free allowance under the residence nil rate band (RNRB). This implies that inheritance fees may increase to £500,000.

Spouses can exchange both of these allowances. For instance, Mr. Jones may give Mrs. Jones his nil rate and residence nil rate bands if he passes away first and hasn't used them. Mrs. Jones's estate will be exempt from inheritance tax up to £1 million upon her passing. It is subject to 40% tax above this.

The residence nil rate band is available to who?

You must fulfill certain requirements in order to qualify for the additional relief that will increase your IHT-free allowance.

You had to have passed away on or after April 6, 2017. A direct lineal descendant, which includes children, stepchildren, adopted children, or grandchildren, must inherit your property or a portion of it. Buy-to-lets are not an option because you have to have occupied the property at some point. "Some of my clients have two properties that they have lived in at some point and ask which one they should claim the residence nil rate band against," stated Jessica Graham, a private client department solicitor at Brabners Personal. The executors are free to decide in this situation, and neither can be held liable. The "

To maximize the RNRB benefit, the executors typically select the most valuable property.

The RNRB will decrease by a factor of two for estates valued at more than £2 million.

As a result, an estate valued at more than 2,350,000 for an individual or 2,700,000 for a couple is not eligible for any RNRB.

More households may lose their RNRB on April 6, 2027, when pensions become liable for IHT.

Relief from downsizing: what is it?

Typically, the residence nil-rate band allows you to transfer up to 175,000 of your home's value inheritance tax-free.

When a person sells or moves out of their home later in life, downsizing relief, also called downsizing addition, can shield them from losing the entire RNRB to which they might have been entitled if they had remained in their previous residence. There are no limitations on the reasons you can be eligible for the relief if you are downsizing.

According to Graham, "it was acknowledged that individuals who were moving into care or downsizing would lose the residents nil rate band entirely, which the government sees as unfair."

"They want Mrs. Smith to be able to move to a more suitable property, which means that the home becomes available for someone else, rather than staying in an 800,000 property for the sole purpose of not being able to claim this tax-free allowance. A "

However, the term "downsizing relief" is a little deceptive because it applies even if you sold your house to move into a care facility in order to either pay for your care or avoid the trouble of renting it out.

The deceased must have sold, given away, or downsized to a less valuable property on or after July 8, 2015, in order to qualify.

How relief from downsizing works.

You can apply for downsizing relief if you have downsized to a less expensive property that is worth less than £175,000 or if the portion of your current property that you intend to leave to direct descendants is less than £175,000.

The relief will close the difference between what you would have received if you had continued to reside in the more expensive home and the amount of RNRB you are entitled to in your current property.

Consider a couple who sold their £400,000 house and moved into a £250,000 apartment.

Including the new property and other savings, their estate will be valued at 900,000 when they eventually die.

They would have been eligible for a total of 350,000 in RNRB allowances if they had remained in the more costly property.

Each of the couple is eligible for an inheritance tax-free allowance of £325,000.

If the couple does not fully utilize their RNRB, their estate may be subject to an IHT liability because they are above this combined nil-rate tax band of 650,000.

Without downsizing relief, their combined RNRB would be limited to 250,000 based on the value of the flat they want to leave to their kids.

However, since their prior home was worth 400,000, the executors are entitled to a 100,000 downsizing addition under the relief's rules. This guarantees that the couple's estate will continue to benefit from the entire 350,000 residence nil-rate band.

Inheritance tax can be entirely avoided by claiming the full residence nil-rate band.

"I've relocated to a care facility."

Will selling our house result in a reduction in our inheritance tax allowance? If you sell your house after moving into a care facility, you won't automatically lose some of your inheritance tax allowances.

The purpose of downsizing relief is to safeguard the value of your assets as they pass through your estate.

"Selling a property to move into care doesn't mean you lose your residence nil-rate band, as long as your estate still leaves assets of an equivalent value up to 175,000 to direct descendants," stated Shaun Moore, a tax and financial planning expert at Quilter.

For example, your estate can claim the same degree of inheritance tax relief as if you were still the owner of the property if the proceeds from the sale of your house are kept as savings or investments that eventually pass to your children or grandchildren. A "

He goes on to say that it is crucial that the value be passed down to lineal descendants rather than friends, charitable organizations, or more distant relatives.

What to look out for with downsizing relief:

To be eligible for RNRB, the deceased had to be a resident of the property. It doesn't apply to you automatically. Not all law firms will ask you for this information, but some might. It is your responsibility to seek relief. Only assets left to lineal descendantschildren, stepchildren, adopted children, or grandchildrenare eligible for downsizing relief. The allowance is lost if your will leaves assets or proceeds to friends, siblings, nieces, nephews, or a flexible trust. Once your estate surpasses £2 million, the residence nil rate band tapers.

What documents do you need to maintain?

Executors will require proof of the property's sale price and date, information about how the money was spent or invested, and, if a smaller property was acquired, valuations of that property.

Additionally, HMRC will require evidence that the equivalent value was left to children or grandchildren, so maintaining a clear paper trail helps prevent needless stress during an already trying period.

"People frequently underestimate the value of the residence nil-rate band and how easy it is to unintentionally lose it," Moore stated. It's a good idea to consult a financial planner or tax expert before selling if you're thinking about downsizing or going into care so they can arrange things in the most tax-efficient manner and guarantee the relief isn't lost. The "