Pre-2007 wills—time for review?

Senior associate Erica John-Marie recaps on changes made to inheritance tax allowances from October 2007, and explains why it may be beneficial for testators to review wills containing Nil Rate Band discretionary trusts. 

Of the general population in the United Kingdom, UK-domiciled spouses tend to receive the most favourable tax treatment. One such benefit is the ‘spouse exemption’ which, since 13 November 1974, is the ability to leave an estate of an unlimited value to a surviving spouse on the first death.

Before 9 October 2007, spouses had to contemplate what to do with each of their Inheritance Tax allowances, known as the nil-rate band ('NRB'), on the first death. The options were to 'use it or lose it' - either leave an equivalent sum directly to children or other intended beneficiaries or it would be lost.  The main drawback of doing this, however, was that the relevant amount would not be available to the surviving spouse.

Accordingly, the purpose of including a Nil Rate Band Discretionary Trust ('NRBDT') in wills for spouses was to ensure that each NRB would be used.  Back then, without a NRBDT expressly stated in wills for spouses, if everything passed to the survivor on the first death, the NRB of the first-to-die would be wasted since it was not transferable, and only one allowance would be available on the survivor’s death.

The solution was to provide in the two wills that, on the death of the first spouse, a legacy equal to their available NRB would be left to a discretionary trust. The potential beneficiaries would usually include the survivor and children. The couple would be advised to own their home as ‘tenants in common’, so that the value in their share of the property could be used to satisfy the legacy to the trust if other assets were insufficient.

Since 9 October 2007, there has been no need to worry about losing an unused NRB on the first spouse’s death as it is ‘transferable’ to the survivor.. But the change was more generous than that, as the NRB on the survivor’s death (which may be higher by that time) is increased by the proportion of the NRB that is not used on the first death. So, if on the first death the NRB is not used at all – perhaps there were no chargeable lifetime transfers and the whole estate passes to the UK-domiciled surviving spouse – the NRB on the survivor’s death would be doubled, at the level then applicable.

After the transferable NRB was introduced, many testators with NRBDTs in their wills – or other significant first-death legacies – decided to leave everything to the surviving spouse on the first death. It was expected that, in the normal course of events, the Inheritance Tax threshold would have increased by the time of the survivor’s death, so that the overall allowances would be higher.

Leaving everything to the survivor also has the significant advantage of simplifying matters after the first death. Where protection is required, a life interest trust for the survivor would have the same effect for Inheritance Tax purposes.

We recommend that testators review their wills to determine whether to keep the NRBDT as it remains relevant to their circumstances, or to remove it.