Whilst the tax benefits of ISAs are generally familiar, the understanding of their treatment on death is less so. The ISA inheritability rules are somewhat complex but it’s important to know how they work as they can ensure that a couple’s savings continue to be protected from income and capital gains tax for their joint lifetime.
As there’s no protection from IHT liability, it’s important to consider how your ISA savings and other wealth can be used in retirement, at the same time maximising the benefits for the next generation.
It’s now possible for a surviving spouse or civil partner to continue to enjoy the same tax-free investment returns on their ISA funds as their deceased spouse.
Any ISA savings passed to a surviving spouse will be exempt from IHT under the spouse exemption, while funds paid to children will use up some of the deceased’s nil rate band, and if large enough, could result in an IHT charge.
Irrespective of who the funds are actually left to, the surviving spouse can still apply for an Additional Permitted Subscription (APS). This gives them an increased ISA allowance equal to their deceased spouse’s ISA funds at the date of death and they can satisfy this subscription from savings of their own.
How does the Additional Permitted Subscription (APS) work?
A surviving spouse has a choice where they register the APS. This could be with either:
- the deceased spouse’s ISA Manager; or
- with an ISA manager of their own choice
If the deceased held separate ISA accounts with the same ISA provider, then the date of death values would be combined to give one aggregate APS. It’s also possible to have multiple APSs with different ISA providers, in which case there will be an APS for each separate ISA.
Once the ISA subscriptions have been used, the normal ISA transfer rules still apply and ISAs can be moved to another provider. However, any amount of unused APS would be lost on transfer.
What do I need to consider when registering the APS?
The main consideration when registering the APS is ultimately where you would like the funds to end up. Having everything in one place can reduce the administration burden and make future planning and asset allocation decisions easier to manage.
The simplest solution could be to register the APS with the deceased’s ISA provider. This may allow the possibility of satisfying the ISA subscription using the non-cash assets held at the date of death without having to sell them. If the surviving spouse has insufficient funds to pay the APS completely, it is possible to spread the APS over a three-year period, starting from the date of death. This could be particularly useful if the surviving spouse doesn’t have enough liquid assets to pay in up front.
A surviving spouse may also wish to choose their own ISA provider, if they have the cash to maximise their APS. Paying to just one ISA manager and keeping everything under one roof can also have huge benefits in terms of administration and monitoring.
Are there any tax issues to be aware of?
Whilst there is currently no continued protection from income and gains once the ISA wrapper falls away on death, there are plans afoot to remedy this.
At the moment, if the assets have grown in value since the date of death, then there could be some Capital Gains Tax liability. It may also require some of the current year’s subscription limit to allow the whole fund to be paid into ISAs.
Once new legislation is introduced, the intention is that income and gains during the administration of the estate will be exempt and the APS value will be taken from the date that Probate is granted.
Beware of the IHT trap!
The purpose of the APS is to maintain the income tax and CGT benefits for the surviving spouse. However, whilst the ISA may escape IHT on first death thanks to the spousal exemption, it will eventually be caught in the IHT net on the second death.
Clients who are over the age of 55 and who also have a modern flexi access pension may wish to think carefully about how they fund retirement, particularly if maximising their children’s inheritance is a priority.
There is also a strong case for moving ISA funds into a pension where there are sufficient allowances to allow it. With contributions enjoying tax relief at their highest marginal rate, it will generally provide a greater like for like return than an ISA, even after paying income tax when benefits are drawn. This exercise is best done prior to retirement whilst you’re still earning and have greater potential to pay more into your pension.
Get in touch with our expert advisors to find out more
With the allowance now set at £20,000 a year, you could well be holding a significant proportion of your wealth in an ISA. The significance of ISAs in estate planning is now more important than ever and you need to be clear on the options available.
If you would like to learn more about the options available to you, please contact one of Springfield Financial Services Ltd’s Chartered Financial Planners and Pension Specialists on 01772 729742.