How to work out and pay inheritance tax: You get just SIX MONTHS to stump up death duties

The daunting task of working out and paying inheritance tax must be done in the immediate and intense period of grief after a death.

Although the vast majority of estates aren't liable for inheritance tax, the number of families grappling with it is bound to rise in coming years due to frozen thresholds, high property prices and pending pension changes.

Inheritance tax is levied at 40 per cent on estates above a certain size.

Estates passing to a surviving spouse or civil partner are exempt, so for many families it is when the second parent dies that they must work out and declare if any tax is due.

Even when an estate is not large enough to pay death duties, the deceased person's finances still need to be gone through and often information must be submitted to the taxman anyway.

If an estate is complex, or it feels too overwhelming to handle, those responsible for winding it up should find a lawyer qualified in this area to help calculate the IHT and deal with other financial affairs.

But if you do get legal help, it is still important to know what your lawyer will be doing on your behalf and the details you will need to provide along the way.

Here's our step by step guide to sorting out inheritance tax after a bereavement.

You get just six months, kicking off from the last day of the month after a loved one's death, to add up their assets, calculate what is owed and hand over any money due to the taxman.

If no money is due, you get 12 months leeway to simply fill in the forms to show nothing is owed.

But you will need to settle this issue one way or another with HMRC, if you need to get probate to gain control of the deceased person's funds - it won't be granted without the taxman's official sign-off.

Bear in mind though that just because you have probate that doesn’t mean HMRC is necessarily satisfied. It can still raise an enquiry at a later date or query a valuation.

Also, note here the very important point that the IHT bill has to be paid upfront by the executor or administrator when they haven't yet got access to the assets in the estate via probate.

Suddenly scraping up this money can be challenging for people who don't have funds ready to hand, even though they will ultimately be paid back out of the deceased's assets.

Those who can't afford it do have options which will be explained below.

You need to be worth £325,000 if you are single, or £650,000 jointly if you are married or in a civil partnership, for your beneficiaries to have to stump up inheritance tax.

A further allowance, the residence nil rate band, increases the threshold by £175,000 each - so £350,000 for a married couple - for those who leave their home to direct descendants.

This creates a potential maximum joint inheritance tax-free total of £1million.

This own home allowance starts being removed once an estate reaches £2million, at a rate of £1 for every £2 above the threshold. It vanishes completely by £2.3million.

Chancellor Rachel Reeves said in the autumn Budget these thresholds will be frozen until 2030.

She also announced that inheritance tax is going to be levied on unused pension pots starting in spring 2027, as it is now on other assets such as property, savings and investments.

This is Money's tax expert and the founder of Aston Accountancy, Heather Rogers, notes that sometimes the full NRB is not passed to a surviving spouse on death, because the first spouse who died did not leave their entire estate to them.

She says the full RNRB may also not be available for offset, depending on the value of the property and other factors - for example, there are special rules if you have sold your home to pay care fees. Trusts can also add complexity, adds Rogers.

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> Who pays inheritance tax

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This can be a minefield. IHT forms sometimes need to be completed to prove an estate doesn't owe any money to the taxman, not just when there is a bill to pay.

Gov.uk explains when to send full details of an estate even when no tax is due here.

Most estates are 'excepted estates', in which case you do not have to give full details of the value.

But take care over this because if you do not submit an IHT400 form when it is required you can face penalties, which are explained below.

'The complexity lies in determining whether the estate qualifies as excepted,' says Shaun Moore, tax and financial planning expert at Quilter.

'If it does, the process is simpler and you can usually proceed with probate without submitting detailed tax forms. If it does not, then full disclosure is required, even if no tax is ultimately payable.

'Fortunately, following a review by the Office of Tax Simplification in 2021 the government announced the reduction in reporting requirements for inheritance tax with an anticipated 90 per cent of non-tax paying estates avoiding mandatory reports.

'However, some still do need to report so checking is crucial.'

Moore provides the following examples where form filling can still be required.

If the deceased:

- Gave away more than £250,000 in the seven years before death

- Continued to benefit from gifts they had made

- Left an estate worth more than £3million

- Held foreign assets worth over £100,000

- Previously lived in the UK but died while living abroad

- Had a life insurance policy that paid out to someone other than a spouse or civil partner alongside an annuity

- Increased the value of a pension lump sum while terminally ill

- Agreed property they had given away would remain part of their estate rather than pay a pre-owned asset charge

- Had made gifts into trust or held an interest in a trust worth more than £250,000, or held an interest in more than one trust.

- Had put assets in a trust which passed to a surviving spouse, civil partner or charity and was worth £1million or more, or £250,000 or more after deducting the value of the exempt transfer.

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> How does probate work? Dealing with someone's estate

The Government has a scarily long list of inheritance tax forms here.

However, the ones you are most likely to need are below.

You should seek professional help if you struggle to fill them in, or the estate is complicated.

'Understanding which forms to complete is one of the first hurdles for families dealing with inheritance tax,' says Shaun Moore of Quilter.

'It's important to check carefully which ones apply, as they can be detailed and time-consuming.'

Inheritance tax forms

IHT400 - If inheritance tax is due, or a full account is due - perhaps because you need to claim the Residence Nil Rate Band.

There can be extra pages, called 'schedules' depending on what is in the estate.

IHT403 gifts and other transfers

IHT404 for jointly owned property

IHT405 for homes or land

IHT406 for bank accounts

IHT407 for household items like furniture or jewellery

IHT418 for trusts or large lifetime gifts

If the date of death was on or before 31 December 2021

IHT205 - If the death occurred before this date but it is unlikely any IHT is due, you might be required to complete this form.

As explained above, applying for probate is an important step to gain control over an estate after someone dies, allowing executors to access bank accounts, settle debts and sort out bequests.

But you usually need to have paid any inheritance tax owed before probate is granted, unless you are paying the tax in instalments - more on this below.

You will need to get an IHT reference number from HMRC at least three weeks before paying any tax.

After paying, you will have to wait for HMRC to send you a unique code confirming you’ve paid it, which allows you to obtain probate.

You will usually get this code within 20 working days of HMRC receiving your IHT400 form or inheritance tax payment, whichever is later.

Probate forms

PA1P - To apply for probate if the person who died left a will

PA1A - To apply for probate if there was no will

If there is a will, the executor - there might be just one, or sometimes more - has to take on this task.

If there was no will, someone can step up and apply to be the administrator of the estate instead.

Whoever does this is usually a close family member and/or someone who will inherit under the intestacy rules. If there is no one, a qualified professional like a lawyer will be appointed, and their fees are paid out of the estate.

The executor and administrator are sometime referred to in legal jargon as the 'personal representative'.

Heather Rogers of Aston Accountancy says these people are responsible for sorting out the estate and completing inheritance tax forms, but they can delegate this work to a solicitor. Again, the fees are charged to the estate.

'This is recommended for complex estates and in my view absolutely mandatory if you have contentious probate – this is where someone challenges the will,' says Rogers.

'You can get into all sorts of legal issues handing those yourself due to the impartiality requirements.'

Other than dealing with inheritance tax, personal representatives have to do everything else involved in winding up an estate, like applying for probate and distributing the assets to the beneficiaries.

If you are named in a will as an executor but don't want to do it, you can officially relinquish the job - but only if you have not already started carrying out the duties.

You need to gain a full and accurate picture of the deceased's finances on the date they died.

That means chasing up all bank statements and other accounts of their assets, like investments and pensions, and getting property valuations.

This can be slow and tedious work, and you might have to chase some finance firms hard for the information.

You can ask for compensation if they let you down - former judge Stephen Gold won hundreds of pounds more for his late aunt's estate from bungling banks and businesses this way.

You also need to find out what gifts the deceased made in the last seven years before they died, which can be tricky if this was done haphazardly and no records were kept.

Keep documents for everything you find out, because HMRC can and may very well ask questions about the figures.

Gov.uk has a guide to how to value an estate for inheritance tax here.

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Everything that is owned, either in the person's sole name or jointly, has to be included on the IHT form.

Shaun Moore of Quilter says: 'That includes property, bank accounts, shares, valuable possessions like jewellery or art, and life insurance policies if they weren’t written in trust. Gifts made in the seven years before death must also be included.'

Heather Rogers of Aston Accountancy says if an asset like a family home is going to pass to a beneficiary and not be sold, it is important to get a surveyor to prepare a proper report on how much the property is worth.

'I speak from personal experience on this, as HMRC enquired into my father’s estate due to the value placed on the house,' she says.

'Fortunately, I had the surveyor’s report and the District Valuer accepted it, after a visit to the property. HMRC then had to accept it too.

'This is another area where people make errors and skip steps and pay the price when an enquiry is opened.'

Rogers also cautions: 'Foreign assets can be left off either intentionally or innocently but they are also usually picked up by HMRC at some point due to the information sharing between countries.'

Inheritance tax is normally handled by a solicitor if you get one to help you sort out an estate.

However there are several important, related tax jobs where an accountant might be needed, and which are often overlooked.

1. A tax return for the deceased for the tax year up to the point of their death.

2. An estate tax return covering the period when the estate is being administered, from death until when it is finalised - if you have a solicitor, they will normally hire an accountant to do this and it is included in their service.

3. A calculation of capital gains tax if a property is later sold for a higher value than was declared at probate (see the link below for a detailed explanation of this little-known tax trap).

Regarding the period of administration of the estate, Rogers says: 'A letter to HMRC will suffice if it is a simple estate.

'Any estate paying inheritance tax will most likely have to do these returns. Income tax and possibly CGT will be payable during this period and it ends when the assets are distributed.

'The liabilities are paid from the estate and for any income arising on the beneficiaries a tax credit will be available for that paid by the estate.'

Complex estates have to be registered with the Trust Registration Service if any of the following apply:

- The estate is worth more than £2.5million

- Income tax and/or capital gains tax during period of administration will exceed £10,000

- Assets of more than £500,000 are sold in any one tax year forming part of the period of administration

Read more

> Do I have to pay CGT because I mistakenly undervalued a house for probate?

Many people worry that a large inheritance will be a burden rather than a boon, when they learn they must hand over potentially gargantuan sums to the taxman before seeing a penny.

It is common for beneficiaries to not have the ready cash to pay inheritance tax bills.

But you do not have to be rich already to receive a substantial inheritance, and you will not be beggared by the experience.

Heather Rogers explains the usual ways around the problem of paying inheritance tax within six months of a death, and before you can access the estate.

The Direct Payment Scheme: Use cash in the deceased person's bank accounts, NS&I accounts and sometimes investment portfolios too to pay HMRC direct. Details of the Direct Payment Scheme are here.

Pay in instalments: If the estate is tied up in non-cash assets, for example property, shares, or a business, you can spread payments to the taxman in 10 equal instalments over up to 10 years.

But on top you will need to pay a variable rate of interest, which is set at the Bank of England base rate plus 4 per cent at the time of each instalment.

The base rate is currently 4.25 per cent, so the interest rate is 8.25 per cent right now.

You can pay the bill off in full at any time to stop paying the interest. But people often choose to pay by instalments so they can afford to keep the family home, or if it is taking a very long time to sell the property.

Borrow to cover the bill: Take out a commercial bridging loan using assets in the estate as collateral. Or, apply for a Grant on Credit from HMRC to postpone paying IHT until the assets are sold. Interest is charged in either case.

Take out insurance: If the deceased has planned in advance, they can take out life insurance and put it in trust, so it isn't in the estate for IHT purposes.

You can appoint one or more beneficiaries of the trust, who will be paid the full sum due when you die.

And you can insure your life for the sum you think your beneficiaries will have to fork out in inheritance tax, to offset their liability.

However, premiums can be high, especially as you get older, and if you cancel a policy you immediately lose all the benefits of taking it out in the first place.

Divert some of the estate to charity: IHT is reduced from 40 per cent to 36 per cent if at least 10 per cent of an estate was left to charity.

If it wasn't, beneficiaries of a will can still redirect some of their inheritance to charity via a 'deed of variation' to cut their IHT bill.

Read more

> How to avoid IHT on life insurance by putting it in trust

> How does a deed of variation work

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If you are the personal representative - the executor or administrator of an estate - you have six months from the end of the month after the date of death to pay an inheritance tax bill.

For example, if someone died on 15 January, IHT is due by 31 July.

If you are late, you will be charged interest on the unpaid tax - it is currently 8.25 per cent a year.

This interest rate applies even if you’ve arranged to pay in instalments.

Meanwhile, you have 12 months to submit IHT forms.

You might want to take this extra time if no IHT is owed, but you do need to apply for probate to get access to an estate, and have to get HMRC's sign-off to do so.

There are penalties for late filing of the IHT400 form, separate from interest and based on how late it is submitted.

- Up to 6 months late: £100

-Six to 12 months late: Additional penalty of £200

- More than 12 months late: Up to £3,200

These penalties are subject to appeal if you have a reasonable excuse.

'A favourite enquiry area for HMRC is estates, particularly property valuations,' warns Heather Rogers of Aston Accountancy.

'If you get the wrong valuation, or HMRC disagrees with your valuation, then expect a visit from the District Valuer.'

She says if an asset is being sold it is less of a worry as the amount it fetches will be the value for the final inheritance tax account.

But if an asset like a property is going to be passed to a beneficiary, you should get a valuation by a surveyor.

Rogers says the level of penalty you might face depends on the circumstances, but can be severe. Here is a rundown.

- Reasonable care has been taken - Up to 30 per cent of the IHT bill, but this let-out will not apply if a professional valuation hasn’t been obtained for a property or other valuable assets.

- Assets have been deliberately omitted from an IHT return – up to 70 per cent of the bill.

- Hiding a deliberate error – up to 100 per cent of the bill.

You might also face contempt of court for signing a misleading legal statement.

Read more

> How HMRC combats tax evasion and what penalties you face

> What to do in a dispute with the taxman

You should be prepared to submit at least one 'corrective account', says Rogers.

She explains this is because IHT has to be paid before the grant of probate is issued, so assets will probably be sold for a different amount later.

'If the asset is land or property and is sold at a loss then the claim for a repayment of IHT must be made within four years of death. For shares it is one year.'

You need the form IHT38 for losses on land and buildings and IHT35 for losses on shares.

Jade Gani, director of the Association of Lifetime Lawyers, says: 'Asset values can fluctuate. HMRC assesses IHT based on values at the date of death.

'If your submitted values were inaccurate, a corrective account can be filed later but must be done before finalising the estate.'

Gani adds that common errors people make with inheritance tax include failing to correctly value joint assets, undervaluing assets in general, and ignoring gifts made in the seven years before death.