Conservative leader Kemi Badenoch has pledged to eliminate inheritance tax on main family homes during her closing address at the party conference in Birmingham.
The proposal introduces an additional 1 million pound allowance alongside the home exemption, which Badenoch said would halve the number of estates subject to the tax.
"No stamp duty when you buy your home, no mansion tax when you live in your home and no inheritance tax on your home when you pass it to your children or grandchildren," she told party members. Badenoch added that her ultimate goal remains to abolish inheritance tax completely once government finances allow.
Early estimates by Oxford Economics indicate that combining a complete inheritance tax exemption for main homes with the 1 million pound allowance could reduce total inheritance tax receipts by 6.6 billion pounds in the 2029-30 tax year. Although full details have not been released, industry experts suggest the 1 million pound allowance for couples could be created by raising the individual nil rate band to 500,000 pounds.
Current rules and tax thresholds
Under current rules, inheritance tax is charged at 40 per cent on estates valued above the 325,000 pound nil rate band. An estate comprises the total value of wealth, property, and possessions left by someone who dies, minus outstanding debts.
Homeowners can access an extra 175,000 pound residence nil rate band if their main home is passed to direct descendants, defined as children or grandchildren, including stepchildren by marriage, fostered children, or adopted children. This allowance tapers away by 1 pound for every 2 pounds that an estate exceeds 2 million pounds.
Assets left to spouses or civil partners are exempt from inheritance tax. Married couples and civil partners can also transfer unused allowances to each other, doubling their combined tax-free allowance to a maximum of 1 million pounds.
The residence nil rate band was introduced in 2017 to allow couples to pass family homes to descendants tax-free. However, because the threshold has never been increased, rising house prices have pushed growing numbers of estates above the 1 million pound limit.
The average inheritance tax bill among taxpayers currently stands at 231,000 pounds. An estate featuring a 1 million pound home, 400,000 pounds in pension pots, 125,000 pounds in joint savings and investments, and 52,500 pounds in cars and personal possessions incurs this average bill today, but would face no inheritance tax under Badenoch's plans.
Upcoming Budget and pension changes
Taxpayers face potential near-term policy shifts in the upcoming first Budget under Prime Minister Andy Burnham and Chancellor John Healey later this month. Although an immediate inheritance tax increase is considered unlikely, experts note it cannot be ruled out as ministers seek to boost public coffers.
Unspent pension pots are scheduled to become liable for inheritance tax starting in April 2027. Badenoch did not comment on whether she would reverse this change, which remains virtually certain to take effect unless a general election takes place before then.
Figures from HM Revenue and Customs show that one in 20 estates paid inheritance tax in the 2023-24 tax year. Bringing pension pots into the scope of the levy is expected to increase that proportion toward one in ten estates.
The rule change also introduces double taxation for beneficiaries of pension holders who die after age 75. Inherited pots will be taxed at 40 per cent for inheritance tax and taxed again as income upon withdrawal, creating an effective tax rate of 62 per cent for higher-rate taxpayers.
Financial advisers report that bringing pensions into estate calculations has fundamentally altered retirement planning strategies. Where advisers previously urged clients to preserve pension pots until last due to their tax-exempt status, many now recommend distributing those funds early.
"The changes have meant pretty much every client has had to alter their plans in some way, whether that's bringing things forward from a gifting perspective or re-evaluating how they're going to draw pensions," said Michelle Holgate, director at RBC Wealth Management. She added that the entire planning spectrum has been turned on its head.
Gifting strategies and the seven year rule
The simplest ways to lower potential inheritance tax liabilities remain spending money or making lifetime gifts. Passing wealth to younger family members during life allows givers to see loved ones benefit, such as helping first-time buyers, home movers climbing the property ladder, or parents facing heavy bills.
"The easiest way to give money away from an inheritance tax perspective is to give it directly to an individual," Holgate said. "But sometimes people are hesitant to do that. It is a family discussion that we encourage people to have."
Annual tax-free gifting allowances have remained unchanged since the 1980s. Individuals can give away 3,000 pounds each year alongside unlimited small gifts of up to 250 pounds per recipient. Specific wedding gift allowances permit parents to give 5,000 pounds and grandparents to give 2,500 pounds.
"The freeze on allowances means families are being painted into an increasingly tight corner when it comes to inheritance tax planning," said Sean McCann, chartered financial planner at NFU Mutual.
Gifts exceeding annual limits fall under the seven year rule as potentially exempt transfers. If the donor survives seven years after making the gift, it becomes free of inheritance tax. If death occurs within seven years, tax is charged on a sliding scale down to 8 per cent in the final year.
Gifting out of surplus income, officially known as normal expenditure out of income, allows gifts to bypass the seven year rule completely. To qualify, gifts must form part of regular expenditure, be paid from income rather than capital, and leave the donor with sufficient funds to maintain their normal standard of living. Pension withdrawals count as income for this purpose.
Holgate suggests givers complete HMRC form IHT 403 in advance to document income and spending habits. Maintaining detailed records of gift amounts, dates, and recipients is vital to assist executors during probate and handle potential HMRC queries.
Trusts, investments, and insurance options
More complex inheritance strategies include trusts, specialist investments, and whole-of-life insurance, all of which require professional financial advice to avoid costly errors.
Trusts allow individuals to set aside money, property, or investments under the seven year rule. Bare trusts permit trustees to manage assets until a beneficiary turns 18, with the donor retaining no control. Discretionary trusts give trustees ongoing control over asset distribution but trigger a 6 per cent tax charge every ten years on amounts exceeding 325,000 pounds. Loan trusts involve lending funds to a trust, allowing givers to recall money if required for future care costs.
"If you are planning to set up a trust, make sure you understand what it will achieve and all the tax implications as well as reporting implications," said tax expert Heather Rogers. She warned against mis-selling and recommended consulting a solicitor, specialist accountant, or financial planner.
Specialist investment schemes, such as holding shares in qualifying companies on the junior Alternative Investment Market, offer 50 per cent inheritance tax relief after two years under business property relief rules, reducing the effective tax rate to 20 per cent.
Advisers also report a rise in clients taking out whole-of-life insurance policies written in trust. Sitting outside the estate, these policies pay out immediately upon death to cover inheritance tax bills before probate is granted, though premiums can be high when secured later in life.
Data from the Office for National Statistics shows that the typical age to receive an inheritance is between 55 and 64. Inheritors can use a deed of variation within two years of a death to redirect inheritances directly to younger generations, preventing their own taxable estates from swelling.
Additionally, changes to Agricultural Property Relief and Business Property Relief took effect in April. The 100 per cent relief is capped at 1 million pounds for businesses and 2.5 million pounds for farms, with assets above those limits receiving 50 per cent relief for an effective tax rate of 20 per cent.
