‘How do I cut my death tax payments?’

Experts tell this property investor how she can leave more to her son. By Sam Barker

The prospect of letting the taxman take large slabs of her estate when she dies does not sit well with Jayne Buchanan. Ms Buchanan, 60, wants to reduce her inheritance tax and capital gains tax liability and better plan her retirement.

She lives in a £400,000 cottage in Berkshire that she co-owns with her son. She has given her son a flat worth around £550,000 and also co-owns two flats in Chiswick, west London, with her brother, one worth £620,000 and one worth £650,000. The latter is rented out for £1,800 a month.

She said: “I want to minimise tax – to make sure the Government gets less when I finally die.”

Aside from her property assets, Ms Buchanan has around £75,000 invested in an Isa and another £75,000 in the bank. She has £15,000 in shares and a teacher’s pension of £500 a month. She will qualify for the full state pension when she reaches 66. She also has a private pension plan worth around £90,000, into which she pays £3,000 a year.

She works weekends as a freelance events organiser and said her attitude to risk was “cautious to medium”. She is divorced. The flat Ms Buchanan gave to her son is eligible for two lots of the £3,000 annual gift allowance against inheritance tax (IHT), as one previous year’s allowance can be used (assuming that no other gifts were made at the time), so the actual gift in 2013 is valued at £544,000 for IHT purposes.

The flat is a “potentially exempt transfer”, so its value counts towards her estate for the first seven years and is subject to IHT on a reducing scale. Above the £325,000 inheritance tax threshold, £219,000 of the value of the gifted flat is currently subject to IHT at 16pc (£35,040). Ms Buchanan’s son would have to pay this. It may make sense to buy a “decreasing term assurance” policy, with a sum assured aligned to the inheritance tax liability.

If she gives her son their co-owned cottage in her will, he can use the “residence nil-rate band”, which protects an additional £125,000 against IHT on top of the normal nil-rate band of £325,000. Ms Buchanan lives part-time in one of the Chiswick flats so she could use her will to nominate that property to benefit from the residence nil-rate band rather than the cottage. Only the remaining estate value (excluding the personal pension) would be subject to IHT.

Reducing this liability could be done by her taking out a decreasing term assurance policy, as before. By placing this policy into trust for the benefit of her son, the sum paid on Ms Buchanan’s death will go to her son and not into her estate. Alternatively, her son could take out such a policy on her to achieve the same thing.

Ms Buchanan’s risk appetite will limit her investment options. One way to reduce her IHT liability would be to sell the £15,000 in shares she currently has and reinvest the money in shares quoted on the junior Aim market. The shares could be held in an Isa. After two years and assuming she still has them at death, any Aim shares would be outside her estate for IHT purposes. However, Aim shares may be too risky for her.

To cover the remaining IHT liability a “whole-of-life” plan could be taken out, but premiums would be high.

Ms Buchanan also wants to reduce liability to capital gains tax (CGT). Isas are not subject to this tax and currently she can pay £20,000 into these vehicles every tax year. This money could be invested in stocks and shares or cash. It may be wise to pick a cash Isa in view of Ms Buchanan’s moderate risk appetite.

Ultimately she will want to retire with enough income for the life she wants. She will get £900 a month from renting one property, £500 a month from her teacher’s pension, variable payments from freelance work and a state pension in six years’ time.

It is unlikely that capital could be drawn from her properties: they could with reservation” rules. However, she could reduce her bill for the next two years by taking out a “gift inter vivos” life assurance policy, which specifically covers the IHT on gifts. The policy is typically for seven years but she could cancel it after two.

CGT dies with you so if Ms Buchanan were to retain her properties there would be nothing to pay. However, if she did want to further reduce her IHT bill by making gifts she would face a 28pc tax on any gains after her annual allowance of £11,700. Most of her CGT liability is on the co-owned cottage. It would not make sense to give it to her son because of the gift with reservation rules. Selling would lose her the additional residence nil-rate band.

She could consider giving the co-owned Chiswick flat not being rented out to her son or brother. She does not get any rental income and the gain on the flat is relatively small, around £15,000. She can offset £11,700 against this, so only £3,300 would be subject to CGT.

If she did this her estate would be reduced by a further £325,000 in seven years’ time. She can insure the liability in the meantime with a gift inter vivos policy. Ms Buchanan is not badly placed, but she should ensure her needs are met and not be driven totally by tax saving.

‘I want to make sure the Government gets even less when I die’

Jayne Buchanan is keen to drive down tax bills. She part-owns three properties and has given away another