Inheriting a property is common in the UK even in situations where the deceased dies intestate (without a valid Will). Homes are generally passed on to surviving spouses, children or other family members. However, in some circumstances, property is left to friends or to charities with each type of bequest having different tax implications.
In this guide, we take a look at the tax liabilities that may be applicable when you are selling an inherited property along with any other considerations for disposing of this kind of asset.
- Do I have to pay tax when I inherit a property?
- What taxes are payable when selling an inherited property
- Inheritance tax and inherited properties
- How to avoid inheritance tax
- Capital gains taxes
- How to avoid capital gains tax when selling inherited properties
- What if the property I inherited is overseas?
Do I Have To Pay Tax When I Inherit a Property?
You do not have to pay any of the following taxes on a property when you inherit it:
- Income Tax
- Capital Gains Tax
- Stamp Duty and Land Tax
What Taxes are Payable When Selling an Inherited Property?
The only tax that is payable when you sell a property that has been bequeathed to you is Capital Gains Tax, if the home is not your main residence. In addition, the usual taxes such as Stamp Duty and Land Tax will also apply.
If you inherit a property in addition to another that you already own then it is your responsibility to advise the HMRC which address is your main residence for tax purposes. You are required to do this within two years of inheriting the second property.
If you keep the property and make money on its resale then you may also need to pay Capital Gains Tax. Likewise, if you earn any money whilst you own the property (such as through rental payments) then you may need to pay Income Tax on this.
Inheritance Tax and Inherited Properties
Contrary to what some people think, inheritance tax is paid from the deceased’s estate and not directly by the beneficiaries of an estate.
If you inherit a house (whether this is from a relative or a friend) then it is up to the estate’s executors to settle any inheritance tax owed before the assets are distributed to, and/or divided with, the beneficiaries.
However, if you inherit a house, and the deceased’s estate is valued over £325,000 (including the probate valuation of the property) then the sale of the house may be required in order to help settle this duty.
Selling an Inherited Property to Pay Inheritance Tax
When an estate is valued at over £325,000 and an Inheritance Tax liability is due then this may result in the need for any property in the estate to be sold in order to pay this debt.
If you inherit a home from the deceased and this is the case then the executors can force the sale of the property to do so (see ‘Do Executors Need Permission to Sell a Property?’, below).
Once the property has been sold and the Inheritance Tax has been paid, the residual sum following the sale will be passed to the original beneficiary or split with all named beneficiaries (net of any sale fees and other tax liabilities).
When Should Inheritance Tax Be Paid?
Inheritance Tax must be paid to the HMRC within six months following the date of death of the deceased. Failure to pay the sum due within this time will result in interest being charged and will result in a fine being incurred. The value of the fine increases the longer this is left with lengthy and serious delays potentially incurring large penalties.
Does a Property HAVE to be Sold to Pay Inheritance Tax?
If Inheritance Tax is liable on the estate of the deceased then it is up to the executor to make adequate arrangements for how this is paid.
With estates that include a property that has considerable value, it is normally the only option to sell the home to meet the cost of Inheritance Tax.
However, if you inherit a home and do not wish for it to be sold then you can discuss alternative ways to find the cash to pay death duties on the estate.
Do Executors Need Permission to Sell a Property?
An executor does not need the permission of anyone else in order to make a decision to sell a property in order to pay the Inheritance Tax. However, their role is principally to act in the best interests of the beneficiaries and must therefore bear this in mind when discharging their duties.
If you have reason to believe that the executor is not performing their role in the best interests of the beneficiaries then you can apply to have the executor removed.
One common reason for contention between beneficiaries and the executor is the agreed sale price of the property. Sometimes, an executor may take a lower offer on a house to enable the sale to proceed more quickly in order to settle any Inheritance Tax due. However, this will have a negative impact on the money due to the beneficiaries.
Whilst the executor holds the ultimate authority on these matters, if the sale value is significantly lower than the market value, these are sufficient grounds for beneficiaries to object to the sale.
How To Avoid Inheritance Tax on Inherited Properties?
Normally, Inheritance Tax can only be avoided if the deceased has made provisions for this in their Will or by making some decisions about how they manage their estate during their lifetime.
However, there are ways you can make a change to a Will after someone’s death which can help reduce the tax liability.
This is commonly done when someone dies intestate (without leaving any/or valid Will) or to rearrange the distribution of assets with the agreement of all beneficiaries to reduce the impact of Inheritance Tax. Any changes to a Will must be made within 48 months after the date of death.
You do not need a formal deed to do this but you must have the permission and agreement of all beneficiaries who will be affected by the changes. Though not a requirement, it is recommended that you seek legal advice to have a Will changed.
This can be done, not only to reduce the amount you pay for Inheritance Tax (and Capital Gains Tax) but also to:
- Move the assets of the deceased into a trust.
- Provide for somebody who was omitted from the original Will.
- Clear up any uncertainty in the arrangements originally made.
If the changes affect the amount of Inheritance Tax that is due to HRMC then you will need to declare this using an ‘Instrument of Variation’. You can find forms for this via the online Government portal.
Other Ways to Avoid Inheritance Tax
Remember that you do not need to pay inheritance tax on any estate which is valued under the current £325,000 threshold; however, the executors will still need to report it to HMRC.
Inheritance Tax is not due on any part of an estate over the threshold which is left to:
- A spouse or civil partner;
- A charity;
- A community amateur sports club.
Other ways in which property can escape Inheritance Tax include:
- If the property was gifted more than seven years before the date of death.
- If property was placed in a trust which neither the deceased or their partner or children under the age of 18 could benefit from.
Capital Gains Taxes and Inherited Properties
For some people, when they inherit a property, such as the family home bequeathed from elderly parents, this will not be their main residence. As a result, if that property is sold then there will be taxes to pay; namely, Capital Gains Tax.
Capital Gains Tax is not payable if you sell an inherited property that is your main residence. You also do not have to pay any duties if you are selling the home to your spouse (or civil partner) or disposing of the property to a charity.
What is Capital Gains Tax?
Quite different to inheritance tax which may already have been paid on some of the deceased’s estate, Capital Gains Tax is a standard levy charged on any profits made on the sale of an asset.
In this case, the asset is the inherited property. But what about profits?
This can be more complicated and will be calculated on the basis of what the value of the property was when you inherited it versus the value of the property when you sell it. The difference between the two will be the total sum of your profit (or loss) and become the basis of any Capital Gains Tax which may be due.
How Much Capital Gains Tax Do I Have to Pay?
The amount you pay to HMRC will be determined by two main factors; the ‘total taxable gain’ and the rate of Income Tax you pay.
For example, let’s say you inherit a property that is worth £250,000 when you inherit it. If you come to sell a few years later and its value has appreciated to £300,000 then the gross profit you have made will be deemed to be £50,000.
This figure is subject to allowable deductions which include:
- Cost of acquiring the property (legal fees etc.)
- Any improvements made to the property (renovations etc.)
- Cost of selling the property
Using the above example of a gross £50,000 profit, let’s say that the following additional expenses may be deducted:
- Cost of acquiring the property - £2,000
- Any improvements made to the property - £8,000
- Cost of selling the property - £5,000
The net profit against which Capital Gains Tax is calculated will therefore be £35,000; £50,000 minus (£2,000 + £8,000 + £5,000). This is known as the ‘total taxable gain’.
Each year, you are allowed a tax-free allowance which is an amount which is exempt from this duty. For the current financial year (2018-2019), this figure is £11,700 (England, Northern Ireland and Wales). In Scotland, the figure is the same but is not applicable if you are a high-rate taxpayer.
There are some additional allowances which may apply including Marriage Allowance and other Income Tax reliefs (check with your accountant to ensure you understand your tax code).
This means that (in most cases) the first £11,700 of your profit is not subject to Capital Gains Tax. Everything you receive over this value will require you to make a payment to HMRC.
The rate of the tax that you pay will vary depending on whether you are basic rate taxpayer or on a higher, or additional, rate of Income Tax.
HMRC has an easy to use calculator which should help you work out any tax liabilities you will need to pay on the sale of an inherited property.
For the purposes of our example above, let’s assume you are a basic rate taxpayer earning £30,000 per year and receive the tax-free allowance of £11,700.
Combined with your salary, you will be judged to have made total gains in the financial year of £53,300 (£30,000 in salary plus the total taxable gains which are the net profits from the sale of the property).
The current income tax bands mean that taxable income up to £46,350 is subject to an 18% deduction for Capital Gains Tax and everything above this threshold is paid at a rate of 28%.
Your total Capital Gains Tax liability can therefore be calculated as follows:
With this example, your liability to HMRC would be a total of £4,889.
Remember, that your Capital Gains Tax allowance of £11,700 is the total sum of all profits made on any assets you sell and is not applicable to each individual sale. Therefore, if you have disposed of any other assets within a tax year you may be liable for the Capital Gains Tax on the full value of the profits made.
For example, if you already sold shares or a business which have earned you a profit in the financial year and used up some of your tax-free allowance then this must be taken into consideration when calculating your Capital Gains Tax. For this reason, it can be prudent to delay the sale of an inherited property to coincide with a new tax year to benefit from a reduced Capital Gains Tax liability.
What Capital Gains Tax is Payable if I Sell the Property at a Loss?
If you come to dispose of a property that has decreased in value since you inherited it then you do not have to pay Capital Gains Tax. You may also use this loss to offset any other Capital Gains Tax liabilities you may have from the sale of any other assets (within the same financial year).
How To Avoid Capital Gains Tax When Selling Inherited Properties?
Remember, Capital Gains Tax is only payable when you sell inherited properties for a profit and they are not your main residence.
You can reduce the amount of Capital Gains Tax owed to HMRC by making legitimate deductions for things like:
- Legal costs for selling (or renting) the property.
- Estate (or lettings) agency fees.
- Extensions or home-improvements
If you have lived in the property for any period of time then you can claim a ‘Private Residence Relief’ for the duration of this period. This may also be applied if you had a dependent relative staying in the dwelling.
A word of caution on Private Residence Relief; you must only claim for this deduction if you have used the property as your (or a dependent relative’s) main residence. Claiming for Private Residence Relief when you have another property and have simply ‘moved in’ for a short period to qualify may be considered fraudulent and you could be liable for prosecution as a result.
What if the Property I Inherited is Overseas?
The rules on death duties and inheritance taxation will vary depending on where in the world the property you inherited is situated. Most countries charge duties on the estate of the deceased in a similar way to the UK and you will need to seek advice from a local solicitor to help you work out any liabilities that may be due when it comes to selling up.
The rules on Inheritance Tax and Capital Gains Tax are the same throughout the United Kingdom however the rates of taxation can vary in Scotland and Northern Ireland from the rest of the UK.