Inheritance Tax is one of the most punishing elements in the UK tax system, and many families are keen to do everything they can to reduce or eliminate it. One of the options available is to use a family heirloom to offset an Inheritance Tax bill. Steve Wright, our Estates Director, explains what’s possible.
When it comes to dealing with Estates, one of the main areas of concern is Inheritance Tax (IHT). Standing at a flat rate of 40%, more than £7 billion was paid in Inheritance Tax last year, and bills are rising. The situation hasn’t been helped by frozen allowances – since 2008 any assets sitting outside the £325,000 threshold attract the tax. With thresholds unlikely to change until at least 2028 more Estates than ever will face IHT.
Thankfully there are a number of ways to help offset IHT. One of the exemptions allowed relates to heirlooms. Given that your Estate includes all your possessions (property, cash, antiques, jewellery and art) it’s possible that the family silver, or a celebrated artwork, may provide a legitimate way to cut any bill.
Which heirlooms are eligible?
To be eligible heirlooms must be classified as pre-eminent and hold cultural significance. The UK tax authorities, HMRC have offered guidance noting:
“Objects and collections of national, artistic, historic or scientific interest form an integral and major part of the cultural life of this country… For more than a century a succession of fiscal and other measures have been introduced to help preserve the heritage”.
Not everything qualifies, and the bar can be quite high; paintings, books and art collections need to have a valid role in telling the nation’s history. Over the past few years Sir Winston Churchill’s painting easel, Judith Kerr’s archive, a David Hockney painting and the medals of Field Marshal Lord Alanbrooke were deemed important enough to meet the requirements. There are certain exceptions, and if an object is closely associated with a museum or historic house which is already open to the public it may also qualify. This is because it can help to convey a sense of heritage allowing for a better tourist experience; visitors are unlikely to flock to a shell of a property in which all items have been sold to pay taxes.
How does it work?
The arrangement – referred to as the Cultural Gifts Scheme – encourages families to share important works of art or those which have a cultural heritage, either by retaining ownership or by donating the item to the nation in lieu of tax.
Option 1 – conditional exemption
The first option in the scheme is conditional exemption and helps heirlooms to remain in your family’s hands through the generations. In this situation the object will continue to be privately owned; you can’t sell it or give it away. There are other conditions: you’ll need to keep the item in the UK, make sure it’s safe and in good repair, and share it openly with the public. This typically works by lending the heirloom to a museum or historic house where it can be displayed for the required number of days per year; usually a minimum of 28. If conditional exemption is approved the value of the heirloom is deducted from the Estate, reducing the impact of IHT.
Option 2 – ‘acceptance in lieu’
‘Acceptance in lieu’ enables the value of the heirloom to be used to pay an IHT bill. The threshold is high, but objects can be diverse; art, books, medical instruments, and even a steam locomotive have been accepted. The process is managed through the Department of Culture, Media & Sport and if the object is accepted it’s assigned to a relevant library, museum or gallery, or other organisation such as English Heritage or the National Trust so it can be put on display. There is a cap on the value of objects which can be taken each year, given that this scheme ultimately means less IHT is collected by the government. It’s also not possible for ‘change’ to be given for items which are worth more than the bill which needs settling. However, there is an incentive called a douceur, which acts as a financial sweetener, to encourage those with works of art to make use of the scheme. The douceur acts as a tax credit, boosting the value of any item which is donated by a quarter of the notional IHT.
The Cultural Gifts Scheme in action
The Austin’s left their entire Estate to their daughter Lucy. The Estate included a house in London and its contents, including a valuable painting worth £100,000. Faced with an IHT bill, Lucy has a number of options. She can choose to sell the painting, and realise £60,000 after paying IHT at 40%. Alternatively, she can apply for conditional exemption, which will allow her to continue ownership of the painting, but will exclude its value from the Estate, and reduce her overall IHT bill by £40,000. Or, if she opts for acceptance in lieu, the painting will be free from IHT and she’ll also benefit from the douceur. In this case, Lucy’s artwork will be valued for IHT with an additional £10,000 (£40,000 from the potential IHT bill x ¼) and instead total £70,000.
Making use of these schemes can have a very positive effect on the IHT your family might face. It’s also a way of ensuring that culturally significant objects can be enjoyed by all. With frozen allowances and IHT continuing to rise it’s likely that family heirlooms may play a larger role in helping families reduce their IHT exposure.