Cohabiting? Here’s how to deal with Inheritance Tax

Cohabiting couples represent an increasingly significant demographic in the UK. In fact, Stewarts Law reports that, in the years between 1996 and 2021, the number of cohabiting couples increased from 1.5 million to 3.6 million.

If you’re part of a cohabiting couple, your life is likely very similar to that of your married peers, yet you might face a distinct set of challenges when it comes to Inheritance Tax (IHT). These challenges can lead to an unexpected and potentially significant tax liability upon the death of one partner. This could place you or your surviving partner in a financially vulnerable position.

Navigating the intricacies of IHT is important for anyone, but most notably those who are not protected by a marriage certificate.

Here’s how to go about it.

Cohabiting couples could face greater Inheritance Tax challenges than spouses or civil partners

The main difference when dealing with IHT as a cohabiting couple is that spouses and civil partners are exempt from the tax. This allows for the transfer of assets between legally married people or civil partners, either during their lifetime or upon their death, without incurring any IHT.

For example, if a husband passed away and left everything to his wife, she would not pay IHT on his estate, no matter how much it was worth.

Currently, this exemption does not extend to cohabiting couples, regardless of the length or commitment of their relationship. For IHT purposes, cohabiting partners are treated as unrelated individuals.

This means that any assets passing to the surviving partner may be subject to IHT if the deceased’s total estate exceeds the current nil-rate band. This is fixed at £325,000 until the 2029/30 tax year.

So, if you passed away and left your estate to your partner, any amount in excess of £325,000 could be subject to IHT at a rate of 40%.

Read more: Why you need to discuss Inheritance Tax planning with your family, and tips to get started

Key IHT planning strategies to consider

For cohabiting couples, proactive planning is essential to mitigate IHT and safeguard the financial future of the surviving partner. You may be able to use several strategies, often in combination, to achieve this goal.

1. Make a will to ensure your assets are distributed as you wish

A fundamental step in IHT planning is for each partner to create a valid will. A will ensures that your wishes regarding the distribution of your assets are clearly documented and legally binding.

If you were to pass away without a will, otherwise known as “intestacy”, the law would dictate how your estate is divided. This may not align with your intentions or provide adequately for your partner, as they have no automatic rights to inherit under intestacy rules.

A will allows you to directly bequeath assets to your partner. For instance, you can specify that your share of the family home passes to them.

2. Gift money and understand potentially exempt transfers

Gifting assets during your lifetime can be an effective way to reduce the value of your estate that is subject to IHT.

Certain gifts will be immediately exempt from IHT, such as gifts made under your annual exemption (up to £3,000 as of the 2025/26 tax year). Larger gifts, known as potentially exempt transfers (PETs), are exempt from IHT if the donor survives for at least seven years after making the gift.

If the donor dies within seven years, the value of the PET may be brought back into their taxable estate, and IHT may be payable. The amount due will depend on how many years have passed between the gift and the death.

Note that taper relief only applies to gifts in excess of the nil-rate band. It follows that, if no tax is payable on the transfer because it does not exceed the nil-rate band (after cumulation), there can be no relief. Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.

Knowing when to gift money to your loved ones can be tricky, so be sure to check out our article for more guidance or talk to a Financial Planner.

Read more: When is the right time to gift money to family members?

3. A life insurance policy could provide funds if written in trust

A life insurance policy could provide a lump sum payment upon the death of a partner, which can be used to cover any potential IHT liability. To ensure that the proceeds of the life insurance are not calculated as part of the estate, you will need to have the policy written into trust.

When life insurance is held in trust, the proceeds are paid directly to the beneficiaries and are generally not considered part of the deceased’s taxable estate. This means your partner could use the full amount to pay any IHT liability.

4. Understand different types of trusts

Trusts are legal arrangements where assets are managed by trustees for the benefit of one or more beneficiaries. They can be helpful IHT planning tools, so it’s important to understand what might be available.

Setting up and managing trusts can be complicated and mistakes can be costly, so it may be worth speaking with a Financial Planner before committing.

5. Review the joint ownership agreement of certain assets

Though you may have a variety of assets that are co-owned, one of the most common is a property. You will likely have bought your shared home under one of two types of “tenancy”.

• Joint tenants. When assets, such as a property, are owned by joint tenants, the surviving partner automatically inherits the deceased’s share by right of survivorship, regardless of what a will might say. However, the deceased’s share is still considered part of their taxable estate for IHT purposes.
• Tenants in common. Here, each partner owns a specific share of the asset. This allows each partner to leave their share to whoever they choose in their will. This can be beneficial for IHT planning, as this can be used in conjunction with trusts for IHT purposes.

Looking at the agreement you made when purchasing jointly owned assets enables you to form an estate plan that keeps the agreement in mind.

6. Get professional advice

Cohabiting couples could benefit from ongoing professional support when forming their estate plans.

Because IHT can be complicated and everyone’s situation is different, getting advice from a professional, such as a Financial Planner, can help ensure that your plan works for you and your partner.

Get in touch

Whether you’re an existing client needing to update your IHT strategy or a new client looking for guidance, we’re here to help.

Email us at enquiries@pen-life.co.uk, or call 01904 661140 to find out more.

Please note

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

All information is correct at the time of writing and is subject to change in the future.

Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The Financial Conduct Authority does not regulate estate planning, tax planning, trusts, or will writing.

Remember that taper relief only applies to gifts in excess of the nil-rate band. It follows that, if no tax is payable on the transfer because it does not exceed the nil-rate band (after cumulation), there can be no relief.

Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.