Estate planning is the act of looking at the assets you own, considering who you wish these to pass to on your death and any inheritance tax consequences, or mitigation available. It also includes considering any lifetime planning available to you to structure your assets in the most tax efficient or protected way.
In our heteronormative world this usually involves sitting down with your husband/wife and deciding how best to pass assets to children with as little cost as possible. However, for members of the LGBTQ+ community there are additional considerations and complications.
In this blog I hope to highlight some of the key issues facing members of the LGBT community when it comes to estate planning and some possible solutions.
The UK tax regime (for inheritance tax, income tax and capital gains tax) is designed to benefit the traditional family. There are income tax breaks for married couples, capital gains tax allowances that allow you to pass assets between spouses without incurring a capital gains tax liability and inheritance tax exemptions which allow assets to be gifted or bequeathed to spouses free from inheritance tax.
All individuals in the UK have an inheritance tax allowance of £325,000. There are however rules that allow assets to pass to a spouse (up to an unlimited amount if both spouses are UK domiciled) free of inheritance tax. This means that most married couples or civil partners can leave their estates to each other without worrying about how the survivor will pay the tax. The unused inheritance tax allowance of the first to die can be claimed by their spouse’s estate, making for a joint inheritance tax allowance on the second death of £650,000. Statistically, members of the LGBT community are most likely to identify as single, and of those in relationships, only 50% are married or in civil partnerships. This compares with 79% of heterosexual couples. This means that, in most cases, inheritance tax allowances are either wholly are partly used up on the first death. If the estate is over £325,000 then there would be an immediate charge to IHT. There would also be no ability to claim the unused allowance on the survivor’s death and the assets are effective taxed twice as they accumulate in the survivor’s estate.
Additionally, a parent’s estate can benefit from an additional inheritance tax allowance (known as the residential nil rate allowance) if they leave their estate to lineal descendants (children or grandchildren) and there estate includes a property that was their home or the proceeds of sale of a property if it has been sold during their lifetime. This allowance is worth an additional £175,000 to each estate and, as with the standard nil rate allowance, it can be transferred to the estate of a spouse if unused in the first estate.
The complication here for LGBTQ+ people can be the definition of lineal descendants: it includes natural children, step-children, adopted children or children for whom the deceased was a legal guardian. It can also extend to foster children. If however couples are unmarried it will not extend to children from an earlier relationship. In instances of surrogacy, the exemption only apply once legal adoption is complete.
These issues often interrelated and can make tax planning for unmarried LGBTQ+ people complex. There are however some ways to navigate around these and some other key issues:
The compounding effect of assets passing to a cohabiting partner can be mitigated by placing these on trust, rather than passing them to your partner outright. In this way, your Will can be drafted to establish a trust (usually a discretionary trust) under which your partner is a beneficiary. If the estate is over the nil rate allowance then there would be inheritance tax payable, however the assets do not automatically pass to the partner. Instead, assets can be loaned or the trust can be used to buy things for beneficiaries. This stops the survivor from ever being treated as owning the property even though they can have use of it throughout their lifetime. It also offers protection for the assets if they were ever to find themselves in financial difficulty. If the deceased has children from an earlier relationship then the trust can also be used to ensure that the capital in the estate is protected and cannot be gifted away by the survivor. Instead, it could be recalled on their death (or possibly earlier) and passed on to the children.
It can be much more difficult to capture the residential allowance in these circumstances. If couples are unmarried (and so children from one relationship are not step-children) then assets can be moved out of a discretionary trust (as described above) to take advantage of the additional tax allowance. This would need to be looked at on a case by case basis as it will depend largely on what assets are in the estate, what the survivor needs and the level of the potential tax liability.
Where one individual is fairly well off then it may be worth considering lifetime planning, including putting trusts in place during their lifetime to remove assets from their estate and mitigate the ultimate inheritance tax liability. For this planning to work, the person setting up the trust (the Settlor) cannot continue to receive a benefit from the assets gifts to trust. If they do then this would be treated as a gift with a reservation of benefit and the planning would fail. It is therefore only appropriate where there are excess assets that the Settlor does not need.
Where inheritance tax is a significant issue then life insurance policies should be considered as a way to settle any potential liability. If policies are taken out then they need to be closely examined to ensure that they will pay out to the survivor or to a trust, and not to the deceased’s estate. If they do pay to the estate then the proceeds of the policy also become liable to inheritance tax and increase the overall estate liability.
Pensions are something that many people often overlook but are a key part of estate planning. If either partner has a pension in place then they should check the pension scheme rules. Most pensions will pay out to a spouse but not to a cohabiting partner. It is however possible to nominate a beneficiary, who does not have to be a spouse, to receive a benefit from your pension. This may be a lump sum or a continued pension depending on the pension scheme. The pension holder would need to complete a nomination form during their lifetime to ensure that this is in place.
One final, and potentially problematic area, is planning around assets in a jurisdiction that does not acknowledge same sex marriages or has laws which make homosexuality illegal. Cross-border planning is always complex however this can make it almost impossible for your wishes to be administered. It is best practice to put in place Wills in each jurisdiction where you hold property or other assets. Do not depend on international treaties, which rarely cover estate administration. Care needs to be taken to ensure that one Will does not revoke another, however in this way you can ensure that you understand the rules around passing assets and can put in place a Will that conforms with those rules while achieving what you want (so far as possible). Elements such as forced heirship rules can make this very difficult and it is always worth taking specific advice in each case.