Recent figures from HMRC showed that in April 2016 there was £518 billion in adult ISAs with more than half of this held by over 65s. That is a very large amount of wealth which will be changing hands over the coming years.
The tax benefits of ISAs are generally well known but their treatments on death are less so. The ISA inheritability for couples means savings can be protected from income and capital gains tax for their joint life but there’s no protection for the next generation who could see 40% wiped off the value of an ISA as it is passed down to them.
Therefore it’s important to consider how these savings and other wealth can be used in retirement, while maximising the benefits for the next generation.
It’s now possible for a spouse or civil partner to enjoy the same tax free investment returns as their deceased spouse on their ISA funds. However the surviving spouse doesn’t automatically inherit the ISA. This is still subject to normal rules on the distribution of the estate, i.e. depending on the Will or the laws of intestacy.
Surviving spouses 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, result in an IHT charge.
Most of the time ISA savings will be passed to the surviving spouse. Irrespective of who the funds are actually left to, the surviving spouse can still apply for an Additional Permitted Subscription (APS). This increases their ISA allowance to equal their deceased spouses’ ISA as at the date of death and therefore see the money transferred without charge.
What is APS
A surviving spouse has a choice where they register the APS. This could be with:
- The deceased spouse’s ISA manager
- Or with an ISA manager of their choice
The ISA types don’t have to match, so for example a deceased’s cash ISA can be applied to a Stocks and Shares ISA in the survivor’s name. If the deceased held separate ISA accounts with the same ISA provider, then the date of death values would be combined to give one combined APS.
It’s possible to have multiple APS’s with different ISA providers, in which case there will be an APS for each separate ISA. But once the APS has been registered to an ISA, it’s only that ISA which can accept the increased subscriptions. Any unused balance cannot be paid to another ISA. Once the ISA subscriptions have been used, the normal ISA transfer rules still apply and ISAs can be moved to another provider. But any amount of unused APS would be lost on transfer.
Things to consider when registering the APS
When registering the APS it’s important to consider where you would like the funds to end up. Consolidating everything under one umbrella can reduce administration, paperwork and make future planning easier to manage.
The simplest solution may often be to register it 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 (such as shares or unit trusts) without having to sell them. And the surviving spouse can always transfer to another ISA provider at a later date.
If the surviving spouse has insufficient funds to pay the APS in its entirety, they can spread the APS over a 3 year period starting from the date of death. This might be useful if they don’t have enough liquid assets to pay in up front, or if market conditions are not beneficial to the sale of equity based investments.
A surviving spouse may wish to choose their own ISA provider if they have the cash to maximise their APS. As stated before paying to just one ISA manager and keeping everything under one roof can be much easier and manageable.
However, consolidating ISA funds doesn’t have to wait until a death occurs. Organising your ISA accounts during lifetime offers all the same advantages and would make the administration of the estates easier for executors too.
If the ISA assets have grown in value since the date of death there could be a Capital Gains Charge (CGT) to pay.
Andrew dies and at his death he held an ISA worth £100,000. He left all his assets to his wife Helen. Probate has now been granted and Andrew’s assets are being transferred to Helen. The assets in Andrew’s former ISA are now worth £115,000.
- Helen is entitled to APS of £100,000.
- If she hasn’t already used her own ISA allowance this tax year she could pay a further £20,000.
- Helen decides register the APS with Andrew’s ISA Manager.
- There will be a disposal for CGT resulting in a capital gain of £15,000.
- Helen will have to pay CGT:
- If she’s a basic rate taxpayer (£15,000 – £11,300) x 10% = £370
- If she’s a higher rate taxpayer (£15,000 – £11,300) x 20% = £740
Once new legislation is introduced the intention is that income and CGT will be exempt and the APS value will be taken from the date Probate is granted.
The IHT trap
APS is to help the surviving spouse maintain the income tax and CGT benefit. However, although the ISA escapes IHT on the first death thanks to the spousal exemption, it will eventually be caught on the second death and possibly with a larger amount.
People beyond age 55 who also have their own pension savings should think carefully about how they want to fund their retirement, especially if maximising their children’s inheritance is a priority. Most pensions are free from IHT unlike ISAs. After taking any Tax Free Lump Sum further income from pensions is taxable, whereas income and gains from ISA investments will be free from tax. Plus if someone dies before age 75, their beneficiaries can also access the funds tax free at any time. Therefore drawing on an ISA and leaving a pension untouched could see a big saving in IHT for some clients.
In some cases there are opportunities to move ISA funds into pensions with contributions enjoying tax relief. It can generally provide a greater like for like return than ISAs, even after paying income tax when benefits are drawn. These options are best done prior to retirement while people are still earning and have potential to pay more into a pension.
With the ISA allowance now set at £20,000 a year with the likelihood of it continuing to rise, people can hold a large proportion of their wealth in their ISAs. Meaning the significance of ISAs in estate planning has become much more important and people who are worried about being affected should seek advice on the options available.