Don't lose the £1m IHT allowance

If you think your inheritance tax (IHT) planning is all sewn up because of the £1 million allowance, think again.

You could lose all of the additional residential allowance that allows couples to pass on a family home of up to £1 million IHT-free if your will is written in the wrong way.

One in three wills has property written into a 'discretionary trust' – this happens for lots of reasons, for instance a husband wants his wife to have use of a property after he dies and then for the property to pass to their children, not a potential second husband.

However, under the rules of the extra IHT allowance, a property can only be passed on if it goes directly to children or grandchildren, if it is written in trust then the trust is the beneficiary even if the children or grandchildren are beneficiaries of the trust. It's a subtle difference but it can have a huge impact.

Watch out

And writing a property into trust isn't the only pitfall that you can make if you want to use that £1 million allowance. For started, the £1 million allowance can only be used if a couple is married or in a civil partnership, and you have to make sure you leave the entire estate to each other in order for the surviving spouse to inherit the deceased spouse's nil rate band.

If, for example, you left a large chunk of money to charity, then your spouse wouldn't get the full nil rate band.

Similarly, if you gift large sums of money to loved ones and die within seven years of those gifts being made, then your allowance is again eroded. The technical term for gifts made is 'potentially exempt transfers' because they aren't exempt from IHT until you live seven years.

The other thing to be aware of is that the £1 million only applies to the family home, so if you have money tied up in buy-to-lets, a holiday home or in ISAs, none of those assets will be able to benefit from an increased allowance.

If you want to really benefit from the £1 million allowance then don't assume the increase in the nil rate band has done the job of tax planning for you: the first step is to check you will and ensure that you're on track to pay as little IHT as you can.

Read more:

Don't get caught in these pension tax traps next year

Pay less tax: ways to reduce IHT

Will you pay less tax under a Tory government