How Do Charitable Donations Reduce Inheritance Tax

Introduction

Inheritance Tax (IHT) is charged at 40 percent on the value of an estate above the tax-free threshold, known as the nil rate band. However, gifts to registered charities are exempt from IHT, and giving a portion of your estate to charity can even lower the overall tax rate applied to the rest of your estate.

Planning charitable donations effectively can therefore benefit both the causes you care about and your beneficiaries.

Charitable gifts are exempt from Inheritance Tax

Any gift you leave to a UK-registered charity is completely exempt from Inheritance Tax. This means the amount you donate is taken out of your taxable estate before HMRC works out how much tax is due.

Charitable donations can be made in several ways:

As a fixed amount of money.

As a specific asset, such as property, shares, or artwork.

As a percentage (or share) of your estate after other gifts and debts have been settled.

To qualify for IHT exemption, the charity must be registered in the UK or another qualifying organisation within the EU or European Economic Area.

Example

If your estate is worth £600,000 and you leave £50,000 to charity, only £550,000 is considered when calculating Inheritance Tax. After the £325,000 nil rate band, tax is due on £225,000 instead of £275,000.

At 40 percent, this would save your estate £20,000 in tax.

The 10 percent rule for a reduced Inheritance Tax rate

If you leave at least 10 percent of your net estate to charity, the Inheritance Tax rate on the rest of your estate is reduced from 40 percent to 36 percent.

This rule is designed to encourage larger charitable gifts while benefiting your other beneficiaries through a lower tax rate.

To qualify, the 10 percent is calculated based on the net value of your estate after deducting debts, exemptions, and the nil rate band.

Example

Your estate is valued at £1 million. After deducting the £325,000 nil rate band, £675,000 is subject to Inheritance Tax.

If you leave £67,500 (10 percent of £675,000) to charity, the remaining £607,500 is taxed at 36 percent, not 40 percent.

Without the charitable gift, the tax due would be £270,000 (40 percent of £675,000).

With the charitable gift, the tax due is £218,700 (36 percent of £607,500), saving over £50,000 in tax while donating to charity.

Depending on the size of your estate, leaving a charitable donation can actually increase the total amount received by your family compared to paying the full 40 percent rate.

How to include charitable donations in your will

To ensure your donation qualifies for IHT relief, it must be clearly stated in your will. You can:

Name specific charities and the amounts or assets you wish to leave.

Leave a percentage of your residual estate (what remains after other gifts and expenses).

Create a charitable trust in your will to support causes over time.

Your solicitor or will writer can help you word the clause correctly to make sure the charity receives the gift and your estate qualifies for the relief.

It is also important to include the charity’s registered name and number to avoid confusion, especially if it has a common or similar name to another organisation.

Lifetime charitable gifts

You do not have to wait until your will is executed to benefit from charitable reliefs. Donations made to charities during your lifetime are also exempt from Inheritance Tax.

You can donate:

Regularly through Gift Aid, which allows the charity to claim back basic rate tax from HMRC.

Assets such as shares or property, which may also qualify for Capital Gains Tax relief.

Lifetime donations reduce the value of your estate immediately, meaning there could be less subject to Inheritance Tax when you die.

Record keeping

Keep detailed records of all charitable gifts you make, both in life and through your will. This helps your executors and HMRC confirm the amounts and ensure the correct tax relief is applied.

Your executor must report the donations on the Inheritance Tax return (usually form IHT400) to claim the exemption or reduced tax rate.

Choosing charities carefully

For the donation to qualify for Inheritance Tax relief, the organisation must be:

A registered UK charity, or

A charity based in the European Economic Area that meets similar conditions.

If you are unsure, you can check the charity’s registration number on the Charity Commission website.

Common mistakes to avoid

Forgetting to specify the charity’s full legal name and registration number.

Assuming all donations qualify when made to non-registered organisations.

Miscalculating the 10 percent threshold for the reduced tax rate.

Not updating your will if charities merge or change their details.

Review your will regularly to make sure your charitable gifts still reflect your wishes and remain tax efficient.

Example scenario

David’s estate is worth £900,000. After using his £325,000 nil rate band, £575,000 would normally be taxed at 40 percent, resulting in a £230,000 tax bill.

Instead, he leaves £60,000 (just over 10 percent of his net estate) to a registered charity. The remaining £515,000 is taxed at 36 percent, reducing the tax to £185,400.

His family receives £669,600 after tax and the charity receives £60,000. Without the donation, his family would have received £670,000 after paying £230,000 in tax.

By giving to charity, he supports a cause he cares about and reduces his estate’s tax burden with almost no financial loss to his beneficiaries.

Conclusion

Charitable donations are one of the most effective ways to reduce Inheritance Tax while making a meaningful impact. Gifts to registered charities are completely exempt from IHT, and leaving at least 10 percent of your net estate can lower the overall tax rate on the rest from 40 percent to 36 percent.

By structuring your will carefully and keeping accurate records, you can ensure your donation qualifies for full relief and benefits both your chosen causes and your loved ones. If you are unsure how to calculate the 10 percent threshold or structure your estate, seek advice from a solicitor or accountant specialising in inheritance and tax planning.