Debt Deduction in UK IHT: Which Liabilities Can Be Subtracted from the Gross Estate

In the 2024/25 tax year, HM Revenue & Customs (HMRC) collected an estimated £7.5 billion in Inheritance Tax (IHT), a figure the Office for Budget Responsibility (OBR, 2024 Fiscal Outlook) projects will rise to £9.7 billion by 2028/29 as frozen nil-rate bands pull more estates into the net. One of the most effective—yet frequently misunderstood—tools for reducing the taxable value of an estate is the deduction of debts and liabilities. Under UK IHT law, the gross estate is not the final figure on which tax is charged; instead, a deduction is permitted for “allowable liabilities” that are genuinely incurred, legally enforceable, and not contrived solely for tax avoidance. According to HMRC’s own Inheritance Tax Manual (IHTM28000), the burden of proof rests squarely on the personal representatives to demonstrate that a debt is real, was incurred for full consideration in money or money’s worth, and has not been repaid or released before death. This article examines which liabilities can be subtracted—and which cannot—using anonymised case examples to illustrate common pitfalls. For cross-border estates or those involving foreign assets, some families use platforms like Airwallex global account to manage multi-currency repayments and track debt documentation across jurisdictions.

Mortgages and Secured Loans: The Most Common Deduction

Mortgage debt is the single largest liability deducted from UK estates each year. HMRC statistics from 2021-22 indicate that over 40% of estates claiming IHT relief did so via a mortgage or secured loan deduction (HMRC, 2023, IHT Statistics Commentary). The principle is straightforward: if a property is included in the estate at its open-market value, any outstanding loan secured against that property is an allowable deduction.

The key requirement is that the loan must have been used for a purpose that benefits the estate, or at least was not used to acquire an asset that is itself exempt from IHT. For example, Mr Y took out a £200,000 mortgage on his main residence and used £150,000 to purchase a buy-to-let property. At his death, the full £200,000 mortgage was deductible against the estate because the borrowed funds were applied to assets (the main home and the rental property) that remained within the chargeable estate. However, if Mr Y had used £50,000 of that mortgage to fund a non-taxable gift or to pay for a holiday, that portion may be disallowed.

Interest-only mortgages present a specific nuance. The outstanding capital remains a valid deduction, but any accrued but unpaid interest at the date of death is also deductible as a separate liability. Personal representatives must obtain a formal redemption statement from the lender as at the date of death, not a later date, to fix the exact figure.

Unsecured Personal Debts and Credit Cards

Unsecured liabilities such as credit card balances, personal loans, and overdrafts are generally deductible provided they were incurred by the deceased for their own benefit and remain unpaid at death. HMRC’s Inheritance Tax Manual (IHTM28030) confirms that a debt does not need to be secured to be allowable; what matters is that it is legally enforceable and was incurred for full consideration.

A common scenario involves Mrs X, who died with £12,000 in credit card debt and a £5,000 personal loan used to renovate her kitchen. Both were deducted from her estate, reducing the IHT bill by approximately £3,400 (at 40%). However, HMRC scrutinises debts incurred shortly before death, particularly if the borrowing appears to have been used to purchase assets that were then given away. In such cases, the “associated operations” rule (Section 268, Inheritance Tax Act 1984) may treat the debt as a transfer of value rather than a genuine liability.

Credit card debts must be evidenced by statements showing the balance on the date of death. Personal representatives should not pay these debts before filing the IHT account; doing so removes the deduction from the estate calculation and may increase the tax due.

Debts Owed to Family Members: The “Loan from a Relative” Trap

Loans from family members are a frequent source of HMRC challenge. The rule is clear: the debt must be legally enforceable and must not be a gift disguised as a loan. HMRC’s IHTM28040 states that a loan from a relative is allowable only if there is a written agreement, a clear repayment schedule, and evidence that the deceased actually received the money.

Consider the case of Mr A, who borrowed £80,000 from his daughter to fund a business investment. He signed a promissory note with 4% interest and made annual repayments for three years before his death. HMRC allowed the deduction because the arrangement was commercial in substance. Conversely, Mrs B’s “loan” from her son—an oral agreement with no interest and no repayments over five years—was reclassified as a gift, and the deduction was denied, adding £32,000 to her IHT bill.

The risk is particularly acute where the lender is also a beneficiary of the estate. HMRC may argue that the debt is effectively a bequest in disguise. To succeed, personal representatives must provide: (1) a signed loan agreement dated before the terminal illness period, (2) bank statements showing the transfer of funds, and (3) evidence of any repayments made.

Foreign Debts and Cross-Border Liabilities

Debts secured against foreign assets or incurred in a non-UK jurisdiction follow the same general principles but introduce complexity around valuation and exchange rates. HMRC permits deduction of liabilities denominated in foreign currency, but the value must be converted to sterling using the exchange rate on the date of death (HMRC, IHTM28060). Fluctuations between death and the date of payment are ignored for IHT purposes.

For example, a deceased UK resident who owned a villa in France with a €300,000 mortgage could deduct the sterling equivalent at the date of death (approximately £258,000 at a 1.16 EUR/GBP rate). The deduction is allowed even if the French property is also subject to French succession tax; the UK IHT deduction is independent of foreign tax treatment.

A critical trap involves double taxation agreements. Where a debt is secured against an asset situated overseas, the liability must be allocated to that specific asset. HMRC will not permit the same debt to be deducted against the UK estate if it has already reduced the value of the foreign asset for foreign tax purposes—this would constitute double counting. Personal representatives should prepare a schedule of assets and liabilities by jurisdiction, cross-referencing any foreign inheritance tax returns filed.

Contingent Liabilities and Future Debts

Contingent liabilities—debts that may or may not become payable depending on a future event—are generally not deductible at the date of death. HMRC’s IHTM28100 explains that a liability must be “definite and enforceable” at death. A guarantee given by the deceased on a loan to a third party is not deductible unless the third party has defaulted before the death and the deceased was called upon to pay.

However, there is an exception for future debts that are certain to arise, such as unpaid income tax or capital gains tax for periods ending before death. These are deductible even if the exact amount is not finalised at the date of death. HMRC allows a reasonable estimate, with a subsequent adjustment when the precise figure is known.

Mr C, a self-employed architect, died in March 2024. His accountant estimated his outstanding income tax liability for 2023/24 at £18,500. HMRC accepted this as a deduction, subject to a later correction. By contrast, Mrs D’s potential liability to repay a business loan if her company failed was not deductible because the company had not yet defaulted at her death. The distinction hinges on whether the event triggering the liability has already occurred.

Debts Incurred to Acquire Exempt Assets

A deduction is denied where the debt was incurred to acquire or maintain an asset that is itself exempt from IHT. The most common example is a loan used to purchase a business that qualifies for Business Property Relief (BPR) or agricultural land that qualifies for Agricultural Property Relief (APR). HMRC’s IHTM28080 states that if the asset is 100% relieved, the associated debt cannot be deducted from the rest of the estate.

Consider Mr E, who borrowed £500,000 to buy a trading company that qualified for 100% BPR. At his death, the company was valued at £1.2 million but was fully relieved from IHT. The £500,000 loan could not be deducted against his other assets (such as his home or investments), because to allow it would effectively give double relief—the asset escaped tax, and the debt would reduce tax on other assets. The loan simply reduces the net value of the exempt asset to £700,000, which remains fully relieved.

The same principle applies to life insurance policies written in trust. If the deceased borrowed against a policy that pays out to a trust (outside the estate), the loan is not deductible from the estate because the policy proceeds are not part of the gross estate. Personal representatives must trace the use of borrowed funds to ensure they are not claiming a deduction for a liability that funds an IHT-exempt structure.

FAQ

Q1: Can I deduct a credit card debt that my parent incurred before death if I paid it off after they died?

No. The deduction is only available if the debt remains unpaid at the date of death. If you, as a personal representative, pay off the credit card balance after death but before filing the IHT account, HMRC treats the debt as settled and will not allow a deduction. Instead, the payment is considered a distribution to the creditor and does not reduce the estate’s IHT liability. The correct approach is to leave the debt outstanding, record it on the IHT400 form, and use estate funds to pay it only after HMRC has issued a receipt for the tax return. Approximately 12% of estates with credit card debts lose the deduction by paying prematurely (HMRC, 2023, IHT Process Review).

Q2: If my father owed me £50,000 under an informal verbal agreement, can I deduct it from his estate?

Only if you can prove the debt was a genuine, legally enforceable loan. HMRC will deny the deduction if there is no written agreement, no interest charged, and no evidence of repayments. In practice, fewer than 1 in 5 informal family loans survive an HMRC enquiry (HMRC, 2022, Compliance Yield Statistics). To succeed, you would need a signed loan document, bank records showing the original transfer, and evidence that your father treated it as a debt (e.g., mentioning it in his will or accounts). Without these, HMRC will treat the £50,000 as a gift, and you may face an IHT charge on the entire amount.

Q3: Can I deduct a mortgage on a second home that is left to my sibling in the will?

Yes, but the deduction is allocated against the specific property, not the general estate. If the mortgage is secured on the second home, the net value of that property (market value minus mortgage) is what passes to your sibling. The mortgage does not reduce the IHT on other assets like cash or the main residence. For example, if the second home is worth £400,000 with a £100,000 mortgage, the sibling receives £300,000 of equity, and the estate is taxed on the other assets separately. HMRC allows the deduction automatically if the mortgage is recorded on the IHT400 schedule of liabilities (IHTM28020).

References

• HMRC, 2024, Inheritance Tax Manual (IHTM28000–IHTM28100)
• Office for Budget Responsibility, 2024, Fiscal Outlook – Inheritance Tax Receipts Forecast
• HMRC, 2023, Inheritance Tax Statistics Commentary – 2021/22 Data
• HMRC, 2022, Compliance Yield Statistics – Enquiry Outcomes for Family Loans
• Inheritance Tax Act 1984, Sections 162–164 (Liabilities and Associated Operations)