Inheritance Tax Planning & Making Gifts

Inheritance Tax Planning & Making Gifts

The current Inheritance Tax nil rate band is £325,000 per person, which can be combined between spouses and civil partners to give a potential joint allowance of up to £650,000.

In addition, there is a residence nil rate band of up to £175,000 per person available where a main residence is left to direct descendants (such as children or grandchildren). This can also be transferred between spouses and civil partners, potentially increasing the total combined allowances to £1 million in certain circumstances.

If your assets exceed these thresholds, you may wish to contact us for professional advice on Inheritance Tax planning.  One of the simplest ways to reduce your potential estate for Inheritance Tax purposes is by making gifts to your family during your lifetime.   I set out a summary below of the key points as there are some important rules about how gifts are made:-

1. The Seven-Year Rule

Most lifetime gifts to individuals are treated as “Potentially Exempt Transfers” (“PETs”): This means:

• if the person making the gift survives for seven years from the date of the gift, the value of the gift will usually fall outside their estate for Inheritance Tax purposes;

• if they die within seven years, the gift must be taken into account and reported to HMRC as part of the Inheritance Tax calculation;

• the size of the gift does not affect whether it is treated as a PET (for example, a gift of £10,000 is treated in the same way as a gift of £100,000), unless the gift is made into trust;

• there is a common misconception that “taper relief” automatically applies where death occurs between three and seven years after the gift.  In practice, taper relief only reduces the tax payable on a gift where Inheritance Tax is actually due on that gift after taking account of the available nil rate band (currently £325,000).  This will usually only apply where the total value of lifetime gifts exceeds the available nil rate band.

  
  

2. Gifts Between Spouses

Gifts between spouses or civil partners are generally exempt from both Inheritance Tax (‘IHT’) and Capital Gains Tax (‘CGT’). This means that assets can usually be transferred freely between spouses or civil partners without triggering an immediate tax charge and, for IHT purposes, such transfers are not treated as PETs.  Different rules can apply where one spouse or civil partner is non-UK domiciled.

3. Annual Gift Allowance

Each individual can give away up to £3,000 per tax year free of IHT.

• If the allowance is not used in one tax year, it can usually be carried forward for one year only.   The exemption is limited to £3,000 in total each year, rather than £3,000 per recipient.  For example, if you have three children, you could give each child £1,000 on their birthday and those gifts would fall within the annual exemption.

• Small gifts of up to £250 per person per tax year may also qualify for exemption.  For example, in addition to the £1,000 birthday gifts to your children, you could also give £250 to each grandchild on their birthday and those gifts would not be treated as PETs.

• It is important to note that the £250 small gifts exemption cannot generally be combined with another exemption for the same recipient in the same tax year.

  
  

4. Gifts Out of Income

Regular gifts made out of surplus income can be immediately exempt from IHT if certain conditions are met, including:

• the gifts form part of a regular pattern;

• they are made from income rather than capital; and

• the donor retains enough income to maintain their normal standard of living.

  
  

A common example would be to draw investment income (rather than allowing it to accumulate within the investment) and using it to pay regularly towards private school fees.

Good record keeping is very important for this exemption.

5. Reservation of Benefit Rules

A gift may still remain taxable if the donor continues to benefit from the asset after giving it away.

Common examples include:

• giving away a house but continuing to live in it rent-free; or

• transferring investments while still enjoying the income.

  
  

These are known as “gifts with reservation of benefit” and can prevent the asset from leaving the estate for IHT purposes.

6. Care Needs and Deliberate Deprivation

It is also important to be aware that gifting assets purely to avoid care fees can cause difficulties. Local authorities may investigate whether assets were deliberately given away to reduce means-tested care contributions.

7. Practical Considerations

Before making substantial gifts, you should consider:

• your future income and capital needs;

• access to funds in later life;

• Capital Gains Tax implications of gifting certain assets;

• fairness between family members; and

• documenting gifts properly.

  
  

Tax rules and allowances can change, and the appropriate advice will depend on your individual circumstances.

If you would like advice regarding Inheritance Tax planning or lifetime gifting, please contact us to arrange an appointment.