Estate Planning – Making gifts during your lifetime
22 Feb 2022
The two things you can be sure of in life is death and taxes. It will come as no surprise that when you die, your estate, that is everything you own, will be subject to inheritance tax. In the UK, inheritance tax (‘IHT’) is at a considerable rate of 40% subject to certain allowances.
What gifts can you make?
You may find yourself wanting to reduce the value of your estate by making gifts to loved ones now. A gift can be of anything that has value, such as money, property or possessions. You may not think of it as a gift, but even offering someone an interest free loan or selling an item to them at an undervalue could be considered a gift in the eyes of HMRC.
Gifts are valued by the Revenue by how much your estate is reduced, rather than the value the recipient receives.
There are certain amounts that can be gifted to individuals that will not incur IHT:
1. Annual gift allowances
You can gift up to £3,000 free of IHT in any given tax year. If you do not use this allowance, it can be carried forward to the next tax year so that you can make gifts up to £6,000.
2. Small gifts allowance
You can also make as many gifts as you like up to the value of £250 to any person.
3. Gifts to exempt beneficiaries
The following will not incur IHT regardless of the amount transferred:
• Spouses and civil partners if you have the same domicile as them;
• Qualifying charities and housing associations;
• UK political parties; and
• National bodies.
4. Weddings/Civil Partnership
There are also additional allowances where the gift is made to someone getting married or entering into a civil partnership. The allowances vary depending on how you are related to the recipient:
• Parents – £5,000.
• Other family members – £2,500
• Anyone else – £1,000
The seven-year rule and the nil rate band
Anything of value above the gift allowances can be subject to IHT if you do not survive 7 years from making the gift. If you survive 3 years, tax payable will benefit from Taper Relief, so the tax payable is reduced by 20% for each complete year you survive. The longer you survive the less tax you will pay.
Once a gift becomes taxable, the value of the gift can be offset against an individual’s nil rate band. The nil rate band is the maximum amount that can be passed on without IHT being due and currently stands at £325,000. Whilst the gifts you have made may be covered by the nil rate band, it does mean there is less of the nil rate band available to be used against the value of your estate.
Gift with a reservation of benefit – a word of caution.
A common misconception is that transferring property to your loved ones during your lifetime will help save inheritance tax. Even if you survive the relevant seven years, there may still be potential tax consequences if you continue benefit from the property.
An example is a parent that gifts the family home to a child but continues to live there rent free whilst the child lives elsewhere. This situation is what is referred to as a ‘gift with a reservation of benefit’ and essentially means that the value of the property is still include in your estate for IHT purposes, even though you have given it away.
Gifts out of income
If you find you have surplus income after you have paid your usual living expenses, one way to reduce IHT is to make use of the ‘normal expenditure out of income’ exemption. This requires you to establish a regular pattern of gifting, such as a parent that decides to pay off their child’s mortgage each month or a grandparent paying their grandchildren’s school fees annually.
You must demonstrate the payment of the gift leaves you with enough income to maintain your normal standard of living. Remember, it will be your personal representatives who will be responsible for claiming this exemption from HMRC. To help save them the time and expense of having to investigate your affairs, you may want to keep written records showing:
1. annual net income, expenditure and the surplus income left over;
2. your intention to establish a regular pattern of gifting to the recipient; and
3. the value, recipient and dates the gifts were made.
The private client team at Harold Benjamin are specialists in estate planning and can help advise you on how to structure gifts so that they are tax efficient and make the most of your tax-free allowances. For more information, please contact Davina Puran on firstname.lastname@example.org