A couple of weeks ago we saw how our fictitious characters Johnny & Sheena were landed with an inheritance bill of over €250,000 when they inherited their parents assets on death. This time round we are going to explore one of the most effective avenues available to legally avoid such huge tax bills, where circumstances allow!
It is fair to say that the Financial Advice industry in Ireland has a reputation for forcing products on people, only making money when they sell 'policies'. The truth is that advice has so much more to offer, if it is done right! That is where Financial Planning seems to come into play. A Financial Planner can still sell you policies I guess, however the onus of a Financial Planner (if they are really behaving like a Financial Planner) should be on exploring your future plans, and helping you determine a clear way forward, that maximises outcomes for you. Family Home Relief is one such thing that Financial Planning can help people be aware of......so here goes!
This week we'd like to introduce you to Jack. Jack is in his 40's, and his parents, Frank & Sharon are both in their late 70's. Frank & Sharon had worked hard their whole lives, and through effective Financial Planning were able to retire at 62 with their desired lifestyles intact (nice cars, meals, clothes, holidays and hair & make-up!). They have been living the proverbial dream for the past 15 years, and are now in pretty rough health, given their indulgences on meals and relaxation!
Frank & Sharon have spent the vast bulk of their retirement funds at this stage (as was planned), and have assets now of €50,000 low volatility investment fund, a car valued at €20,000, and their home, valued at €600,000. Sadly, and in order for this blog to make any sense, they both die, first Frank and then shortly afterwards Sharon. Their entire assets are left to Jack, who is obviously very emotionally distraught, but has now inherited their assets!
So what inheritance tax bill (Capital Acquisitions Tax) will Jack be forced to pay? If you did check out Johnny & Sheena's story, you will recall that a child, as at Feb 2018, can inherit €310,000 from a parent tax-free, while everything over that value is taxed at 33%.
Total inherited assets = €670,000
Threshold (tax free amount) = €310,000
Taxed Amount (33%) = €360,000
Saucy tax bill = €120,000
How is Jack going to pay that tax bill? If he does not (and we'll assume he doesn't in this example) have savings of his own, how is he going to pay that bill?
If he sells the car and also cashes-in the investment he will have cash of approximately €70,000, which is €50,000 short of the bill he has just got from the Revenue. His options are that he could borrow money, sell the house, or try to come to some arrangement with the Revenue to repay it over a period of time, but they want the money they are 'owed'. This is hardly what Frank & Sharon had in mind when they were aware of their demise and looking forward (in a way) to passing their wealth to Jack!
What Is 'Family Home Relief' & How Does It Reduce My Tax Bill?
Here's the deal. Part 24 of the Revenue Operating Manual of Capital Acquisition Tax (CAT) sets out that 'there is an exemption from CAT where residential properties are bequeathed (given!) by individuals who live there to successors.....'.
Ultimately this exemption, often known as 'Family Home Relief' enables an owner of a home to pass that home to another with no tax payable on inheritance by the person benefiting from it. Interestingly, there does not need to be any formal lineage between the 2 people, there is no requirement for them to be related in any way, although it usually is the case there they are!
In our example above had Jack been living with Frank & Sharon in their home for at least 3 years before their death he could have inherited the house totally tax free. There are some stipulations that the Revenue put on this which we'll play through in a moment. Firstly, here is how the tax bill would have looked if that were the case.
Total inherited assets = €670,000
Less Value of Family Home = €600,000
Taxable Inherited assets = €70,000
Threshold (tax free amount) = €310,000
Tax Bill = €0
In this instance Jack's taxable inheritance is way way below the amount that a child can inherit from a parent, meaning he has no tax bill whatsoever to pay. This would effectively mean that instead of paying €120,000 tax he pays none, and Frank & Sharon's entire assets pass to Jack, which has to be a good thing right!?
How Can I Inherit A Family Home Without Paying Inheritance Tax??
As noted above there are some conditions on ensuring that it is a legitimate and qualifying transaction, because if found to be otherwise at a point in the future the tax bill (and potentially more) would be payable in full.
- Jack has to have lived in the home for 3 years prior to the inheritance
- He will continue to occupy if for 6 years after inheriting it
- He does not own (even a portion) of any other house, in Ireland or abroad
The house was in this case, but it must be the only, or main residence of Frank & Sharon at the time of death. If Jack lived in a different house, which was at that time the only or main residence of Frank & Sharon then that should qualify the current house. If Frank & Sharon did not live in the house at the time of death due to mental or physical ill-health this will not cancel the relief.
What Would Cancel The Family Home Relief?
You will have noted that there is a condition stating Jack must live in the house for the 6 years after inheriting it otherwise the relief will be cancelled and the tax bill of €120,000 would fall due for payment. So if Jack sold the house, or was to move in with a partner in a different home (as his main residence) then the relief would be voided.
There is flexibility in this however, and in a number of different scenarios:
- Jack sells the house but uses all the money to buy a different home which he uses as his main residence (if he does not use all the money, there may be tax payable on the amount not used to buy the new home)
- If Jack is 65 when he inherits the house (not the case in our story!)
- If Jack was required to live in other accommodation because of mental or physical infirmary (GP certified illness or injury)
- Jack is required by his employer to move to another location (here or abroad) to fulfill his work commitments
How Can I Prove That I Am Entitled To The Relief?
Revenue recommend Jack completes IT38 Form as part of his annual self-assessment. The Revenue reserve the right to audit the claim as part of it's ongoing compliance. In such an instance Jack would be asked to submit proof of residing at the house for the 3 years prior to inheritance, confirmation of Frank & Sharon's Will. If he is claiming any of the above 'flexibilities' he will be required then to submit proof of whichever flexibility he is claiming.
This will not work for everyone, it might be a minority that will actually be able to benefit from it, however surely it is worth knowing, and if you do ever come across someone who might 'fit the bill' why not point them in the direction of this piece. It might just save them a small (or not so small) fortune!
Thanks for reading.
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