Inheriting ISAs: Tax Efficient Top Tips

The autumn statement finally arrived on 3rd December and most of the headlines were grabbed by the changes to stamp duty and pensions, but in the background details have begun to emerge on how new ‘inheritable’ ISA rules will operate. In this article we look at some top tips for Inheriting ISAs.

If an ISA holder dies on or after 3 December, their spouse or civil partner will be allowed to invest an amount equivalent to the deceased’s accrued ISA holdings into their own ISA via an additional allowance. This is in addition to their normal annual ISA limit for the tax year and will be claimable from 6 April 2015.

This means the surviving spouse can continue to enjoy tax free investment returns on savings equal to the deceased ISA fund, but it doesn’t have to be the same assets which came from the deceased’s ISA which are paid into their spouses new or existing ISA. The surviving spouse can make use of their increased allowance from any assets.

By not linking the transferability to the actual ISA assets, it provides greater flexibility and doesn’t have an adverse impact on estate planning that you may have already put in place. For example, had it been the actual ISA itself which had to pass to the spouse to benefit from the continued tax privileged status, it could have meant many thousands of ISA holders having to amend their existing Wills. Where the spouse was not the intended beneficiary under the Will or where assets would have been held on trust for the spouse, they would miss out on the tax savings on offer.

Instead it’s the allowance which is inherited, not the asset. This means that, even in the scenarios described above, the spouse can benefit by paying their own assets into her ISA and claiming the higher allowance. The deceased’s assets can be distributed in accordance with their wishes, as set out in their Will.

Whilst tax benefits of an ISA are well documented. Funds remain free of income tax and capital gains when held within the ISA wrapper. And it’s the continuity of this tax free growth for the surviving spouse where the new benefit lies. It’s an opportunity to keep savings in a tax free environment.

But the new rules don’t provide any additional inheritance tax benefits, the rules just entitle the survivor to an increased ISA allowance for a limited period after death. The actual ISA assets will be distributed in line with the terms of the Will (or the intestacy rules) and remain within the estate for inheritance tax.

Where they pass to the spouse or civil partner, they will be covered by the spousal exemption. Even then, the combined ISA funds may ultimately be subject to 40% inheritance tax on the second death.

With ISA rules and pension rules getting ever closer, it may be worth some investors even considering whether to take up their increased ISA allowance if the same amount could be paid into their SIPP. This would achieve the same tax free investment returns as the ISA and the same access for investors aged over 55, but the benefit would be that the SIPP will be free of inheritance tax and potentially tax free in the hands of the beneficiaries if death is before 75.

The finer details of how this will operate should be ironed out by the end of January but the allowance will be available to use from 6th April 2015 for deaths after 3rd December 2014.