Question about IHT/CGT on inherited house

[TheOtherMrsWalker]

MIL died over 10 years ago. She left her house (which was in her sole name) in trust to her DC but stated that her partner, who I'll call FIL though they never married, could live there until his death.

Her will also stated that FIL could sell the house and buy another one with the proceeds. Upon FILs death the house would go to my DH and his brother.

FIL sold the house, bought another which he rents out and moved into a separate house with his new partner.

Don't have much contact with FIL but he sent a catch up email the other week and mentioned that the value of his estate might mean DH and his brother are liable for inheritance/CGT when he dies.

Can someone explain this? Why would his estate determine whether MIL's DC pay inheritance tax?

Might he be leaving something to them?

Because he has a life interest in the house and as such it will be taxed to IHT as part of his estate when he dies. No CGT though.

The IHT will be due by the trustees of the trust and as such it will come out of the value of the assets in that trust, or the house.

*ie the house, that should say

You are right, it is a bit complicated! I'm an accountant, although IHT is not my specialty.

Broadly speaking, if a house is left to children, but a spouse / partner has the right to live there until death, it is not subject to inheritance tax until the death of the spouse.

However, on the death of the spouse / partner, the value is included in their estate when it comes to calculating inheritance tax. As they were not married, it will not be possible to claim certain reliefs (such as the transferable nil rate band and transferable residence nil rate band).

If there are two or more properties in the estate, one can be nominated as the main residence and the spouses own residence nil rate band can be applied in relief, as long as the property is being left to a direct descendant.

If then the total estate is in excess of the IHT limits, then yes, IHT will be payable.

Thanks very much for replies.

FIL is quite cagey about his finances but we think he owns the house he's living in with his new partner. So he'll probably leave that to his DC and MIL's DC will be the ones paying IHT?

Do you know what the value of FIL's estate can be before DH is liable for IHT?

The value will depend on a number of things, specifically:

1. The value of the ordinary nil rate band at the time of FIL's death (currently £325k)
2. The value of any residence nil rate band available on FIL death (currently £175k)
3. Whether he marries his current partner. If he doesn't, the above are the only reliefs I can think of (so total of £500k before IHT due).
4. If he does marry his current partner, there are a few more possibilities, but it'll get complicated. If he dies first, and leaves all his estate to the wife, then there's only £500k that will be left without IHT, but it would only have to cover the house, not the whole estate as amounts left to a spouse are exempt. If his wife dies first and leaves everything to him, then he would be able to utilise her transferable nil rate band (£325k) and possibly her transferable residence nil rate band (further £175k), so total of £1m. But that will also depend on the house being left to a direct descendant.

Thanks @DistantVworp - that's very helpful.

What puzzles us, is why MIL's DC would be liable for the IHT and not FIL's DC. MIL's estate was below the threshold and she didn't leave the house to FIL, just allowed him to live there.

IHT is due on the estate, not by the beneficiaries, but the amount of IHT will depend on what assets are in the estate and who they are being left to.

For example, let's assume the entire estate consists of two houses - House A (your MIL's house) and House B (the house FIL lives in, we're going to ignore his current partner for this). House B is being left to FILs children. At FILs death, House A is worth £400k, House B is worth £500k.

The calculation should be:

Total value of estate: £900k

LESS
Residence nil rate band (£175k)
Nil rate band (£325k)
Value subject to IHT £400k

IHT payable at 40%, so IHT due of £160k from the estate as a whole.

It's possible that FIL is thinking of it as:
House B value £500k
LESS
Residence nil rate band (£175k)
Nil rate band (£325k)
Total IHT value for house B £0
IHT value for House A £400k

Your DH then has to pay 40% of £400k - £160k from MILs house. FIL would be wrong to think in that way however.

It's probably worth getting some specific advice - as I said, this isn't my area of expertise, and I only really know the details of it because we are going through the same thing (in the opposite direction), with MIL's estate. It has highlighted to me why you should really only leave a life interest in an asset to a spouse - because they weren't married, the IHT liability will be much higher.

Wouldn't he have an interest to live there, but now he has moved out it can go to the children?

Can this been written into the will?

I understand now, thanks very much DistantVworp

Re: CGT @ShockOche are you sure the trustees won't be liable for this given that FIL sold MIL's house and purchased another one via the trust?

Wouldn't he have an interest to live there, but now he has moved out it can go to the children?

No, MIL's will permitted him to live in her house or sell it and purchase another. It only goes to her DC when FIL dies.

On CGT, this will only be due on the gain in value (if any) between the date of FIL's death and the date the house is sold.

So it's usually a pretty short period, and there doesn't tend to be a big hike in value (would usually be covered by the CGT annual exemption).

There are some things to be careful of (nothing to do with tax), and this is where it will depend on what was in the will. So what happens if the house is sold (as has already happened once). The question to check is what happens / happened to any difference between the sale value of MILs house and the new house - if MILs house was sold for £400k and the new house was purchased for £350k, what happens to the difference? I would expect that to be split between your DH and his brother, but it will depend on the will. I remember seeing a thread on here once where someone's step-MIL was basically eroding the value of the asset through repeated selling and buying a lower vaule house.

Also, while normally any normal running costs will be met by the life tenant, structural works would be the responsibility of the actual owner.

Finally, (and I think this will depend on where this is - this is true of Scotland, not sure of England and Wales), the liferenter (ie FIL) usually owns the use of the property. Although they can sometimes rent the property out, this will usually require specific terms in the lease and often is not applicable where the liferent is derived from a will.

If the Trust has been run correctly it is in the Trust name not FIL. I would be checking those things now. Who are the Trustees as they are responsible for this.

Interesting! I never knew that a property where someone has a life interest could be part of their estate for IHT purposes.

That seems very unfair. In OP's case the MIL house/ replacement house wasn't ever going to be above IHT thresholds. But the subsequent decisions of the late partner, who doesn't even own the property, now means MIL's inheritors will get less.

Titchy - it is mad isn't it? With my MIL it's worked to our advantage as her second husband's estate will be pretty small, and as they have both married twice, each can use the transferable nil rate band and residence nil rate band from their first spouse.

On the Trustee point, this is where the exact wording of the will (and whether in England or Scotland) will matter. OP - It's probably worth getting a copy of the will to reassure yourself if you are concerned.

If your FILs estate has to pay inheritance tax and his stepchildren are not beneficiaries then there is no effect on them surely? But FILs DC are shafted.

The only other thing i can think of that might be relevant is whether FIL had been widowed before getting together with your MIL. If he had, and his first wife left her estate to him, he might have full transferable nil rate band and transferable residence nil rate band.
*
Thecapitalsunited* - as explained above, MIL's house forms part of FIL's estate for IHT purposes, even though he doesn't own it. As a result, the value of his estate for IHT purposes increases by the value of the house and the IHT liability is met from the estate as a whole.

@DistantVworpes I get that it would form part of FILs estate but if he isn’t leaving anything to OP’s DH (he doesn’t appear to be related to him) then why is it any concern of OP’s DH? Only the FILs beneficiaries need to be concerned about IHT on the estate, no? Or rather his executors.

It's crazy isn't it? The house is in DH and his brother's names so you'd think when FiL dies it would be their's to dispose of without a whopping great tax bill.

I've just dug out the will (can't sleep!) and it's pretty incomprehensible but it appears to say that FiL can sell the house (and subsequent houses) "at a price that he shall specify." Does that mean he could sell it to, say, his daughter for much less than the market value?!

Honestly, that is where you would need advice from a lawyer (I'm an accountant). I would think there would be some provision around what happens if not sold at market value etc, or some means for your DH to challenge but I don't know.

Do you know what the sold price of MIL house and the purchase price of the new one is (fairly easy to look up) - it feels unlikely that they are exactly the same.

You need professional legal help to establish the terms of the trust. Personally I would do this as soon as possible as it’s not the sort of thing you want to sort out in a hurry.

The house he bought after selling MIL's house was £50k less. It was to be invested and he could "enjoy" the income with the capital going to MiL's DC when he dies. So FiL has had that plus rent from the new house for over a decade.

Thanks for replies. DH and his brother need to pulls their heads out of the sand and speak to a solicitor because after re-reading the catch up email from him, I suspect he's up to something.

*pull not pulls. God for an edit button!