Inheritance Tax Explained: Who Pays and How It Is Calculated | PDA Law

What Is Inheritance Tax?

Inheritance Tax (IHT) — historically known as "death duties" — is a tax levied on the estate of a person who has died. The estate includes all property, money, investments, and possessions the deceased owned at the time of death.

HMRC requires the total value of the estate to be calculated. If it exceeds the available allowances, the excess is subject to tax at 40%. Only around 4% of estates in England and Wales actually pay IHT — but for those that do, the bill can be substantial.

The key question most families get wrong: they assume the children pay the tax. They do not. The executor pays it from the estate — before a penny reaches the beneficiaries.

Who Actually Pays Inheritance Tax?

The Executor Is Responsible

The executor named in the will is legally responsible for calculating and paying Inheritance Tax. This is done from the estate's assets — not from the executor's own pocket.

Beneficiaries Do Not Pay Directly

Children and other beneficiaries do not pay IHT out of their own money. The tax is deducted from the estate before assets are distributed. Beneficiaries receive the net amount after tax.

Payment Is Due Within Six Months

IHT must be paid within six months from the end of the month of death. Interest accrues on unpaid tax after this deadline.

Often Paid Before Probate Is Granted

This creates a practical problem: the executor must pay IHT before they can access the estate's assets via probate. The Direct Payment Scheme allows funds to be released from the deceased's bank accounts directly to HMRC.

The Probate Timing Problem

Executors face a practical challenge: IHT must often be paid before probate is granted — but probate is needed to access the estate. The Direct Payment Scheme allows the deceased's bank to release funds directly to HMRC, solving this problem without the executor needing to use their own money.

The Nil-Rate Band and Thresholds

Not every estate pays IHT. The tax only applies to the portion of the estate above the available allowances. Understanding these thresholds is the starting point for any IHT planning.

Standard Nil-Rate Band

£325,000

Every individual's tax-free threshold. Frozen since 2009.

Residence Nil-Rate Band

£175,000

Additional allowance when leaving your main home to direct descendants.

Couples Combined

£1,000,000

Married couples and civil partners can combine all allowances.

Standard IHT Rate

40%

Charged on the value of the estate above the nil-rate band.

How the Calculation Works

Suppose an individual dies with an estate worth £600,000, leaving their main home to their children. They have the full nil-rate band (£325,000) and the Residence Nil-Rate Band (£175,000) available — a combined allowance of £500,000.

Estate value£600,000

Less: Nil-Rate Band−£325,000

Less: Residence NRB−£175,000

Taxable amount£100,000

IHT at 40%£40,000

What Is Included in the Estate?

The executor must meticulously document and value every asset before IHT can be calculated. The estate includes:

All property — including the main residence, buy-to-let properties, and any overseas real estate

Bank accounts, savings, and investments

Jointly owned assets (joint tenants: full value counted; tenants in common: deceased's share only)

Personal possessions, vehicles, jewellery, and collectibles

Business interests and shares

Life insurance policies not written in trust

Overseas assets — individuals domiciled in England and Wales are taxed on worldwide assets

Gifts made within the last seven years (Potentially Exempt Transfers)

Jointly Owned Property

Joint tenants: The property passes automatically to the surviving owner, but its full value is still counted in the estate for IHT purposes. Tenants in common: Only the deceased's specific share is assessed.

How to Reduce Your Inheritance Tax Bill

IHT is often described as a voluntary tax — because with careful planning, many families can significantly reduce or even eliminate the bill. Here are the main strategies:

Annual Gifting Exemption

Immediate

Give away up to £3,000 per tax year completely free of IHT. Unused allowance can be carried forward one year, potentially allowing a £6,000 gift.

The Seven-Year Rule (PETs)

Long-term

Larger gifts become fully exempt from IHT if you survive seven years after making them. These are called Potentially Exempt Transfers. Taper relief reduces the tax if you die between three and seven years.

Spouse and Civil Partner Exemption

Immediate

Leaving everything to a spouse or civil partner is 100% free of IHT. Their unused nil-rate band can also be transferred to you, potentially doubling your threshold.

Business Property Relief

Specialist

Qualifying business assets and shares in unquoted trading companies can attract up to 100% IHT relief, protecting family businesses from a forced sale.

Charitable Donations

Immediate

Leaving at least 10% of your net estate to a qualifying charity reduces the IHT rate from 40% to 36% on the remainder — a meaningful saving on larger estates.

Deed of Variation

Post-death

Beneficiaries can redirect their inheritance within two years of death — to a trust or the next generation — to mitigate future IHT exposure without the original testator needing to have planned for it.

IHT and Other Taxes: Clearing Up the Confusion

Many families worry about multiple taxes applying to the same assets. Here is how IHT relates to the other main taxes:

IHT vs Capital Gains Tax

When someone dies, the base cost of their assets is "uplifted" to market value at the date of death. This means no Capital Gains Tax is payable on death — even on assets that have appreciated significantly in value. IHT and CGT are separate taxes and do not overlap at death.

IHT vs Income Tax

IHT applies to the capital value of the estate. Income Tax is separate and applies only to income the estate earns during the administration period — for example, rental income from a property or dividends from shares before they are distributed to beneficiaries.

How Beneficiaries Receive Their Inheritance

Once the executor has paid all taxes, settled debts, and obtained the Grant of Probate, the estate can be distributed. Beneficiaries receive their inheritance via:

Bank Transfer

Cash and savings are transferred via BACS or CHAPS directly to the beneficiary's bank account.

Property Transfer

Property is transferred by updating the title deeds at HM Land Registry. Stamp Duty Land Tax may apply.

Asset Transfer

Shares, investments, and other assets are transferred by updating the relevant registers or accounts.

Is Your Estate Exposed to Inheritance Tax?

Our Wills, Trusts & Estates team can review your estate, identify your IHT exposure, and recommend the most effective strategies to protect your family's wealth.

Use Our IHT Calculator Speak to Our Team

Frequently Asked Questions

Who is responsible for paying Inheritance Tax?

The executor named in the will is legally responsible for paying IHT from the estate. Beneficiaries do not pay IHT out of their own money — the tax is deducted before assets are distributed.

When does Inheritance Tax have to be paid?

IHT must be paid within six months from the end of the month of death. Interest accrues on unpaid tax after this deadline. The payment often has to be made before probate is granted, which creates a practical challenge for executors.

What is the Inheritance Tax threshold?

The standard nil-rate band is £325,000 — the amount below which no IHT is charged. An additional Residence Nil-Rate Band of up to £175,000 applies when you leave your main home to direct descendants. Married couples and civil partners can combine allowances, potentially sheltering up to £1 million.

What rate is Inheritance Tax charged at?

The standard rate is 40% on the value of the estate above the nil-rate band. This rate reduces to 36% if at least 10% of the net estate is left to a qualifying charity.

Do beneficiaries pay Inheritance Tax?

No. Beneficiaries — including children — do not pay IHT directly. The executor pays the tax from the estate before distributing assets. What beneficiaries receive is the net amount after all taxes and debts have been settled.

Is a spouse exempt from Inheritance Tax?

Yes. Transfers between spouses and civil partners are completely exempt from IHT, regardless of the value. Any unused nil-rate band can also be transferred to the surviving spouse, potentially doubling the threshold available on the second death.

What is the seven-year rule for gifts?

Gifts made more than seven years before death are fully exempt from IHT. These are called Potentially Exempt Transfers (PETs). If you die within seven years of making a gift, taper relief applies — reducing the tax owed on a sliding scale from 100% (within three years) down to 20% (between six and seven years).

Does Inheritance Tax apply to overseas assets?

If you are domiciled in England and Wales, IHT applies to your worldwide assets — including foreign property and overseas bank accounts. Dual taxation treaties may provide relief where tax has already been paid in another country.

How does the Direct Payment Scheme work?

The Direct Payment Scheme allows executors to instruct the deceased's bank to release funds directly to HMRC to pay the IHT bill — before probate is granted. This solves the practical problem of needing to pay tax before you can access the estate.

Can Inheritance Tax be reduced after death?

Yes. A Deed of Variation allows beneficiaries to redirect their inheritance within two years of death — to a trust or the next generation — to reduce future IHT exposure. Charitable donations can also be added post-death to reduce the rate from 40% to 36%.