Christmas is known as the season of giving. What better way to spread joy this festive season than by giving gifts? These gifts can help reduce your estate’s future inheritance tax bill, especially when planned with inheritance tax gifting rules.
With each successive budget, the rules around inheritance tax and gifting can seem as tangled as the fairy lights that live in your attic but, with some expert guidance, you can pass on more of your wealth in a tax-efficient way. So, in the spirit of the season, we have prepared a brief guide of the key points to note when you are exploring making gifts for inheritance tax reasons.
Why do gifts affect my estate’s inheritance tax?
Although some people think that they are only taxed on their assets at death, inheritance tax is actually charged on the value of their estate at their date of death, and any chargeable gifts made in the seven years prior to their death. Gifts made longer than seven years ago may also be caught if the donor does not give the gift absolutely (i.e. where they retain a benefit in the gifted asset). Understanding inheritance tax gift exemptions is therefore vital in determining which gifts may fall outside your estate.
Gifts include not only gifts of cash, personal items, property, and investments, but they can also include the sale of an asset at an undervalue. An example of this would be if you sold a property to one of your children for less than the full market value.
HMRC has wide-ranging powers to investigate lifetime transfers if they think you may have made a gift which ought to have been caught by the inheritance tax rules. It is therefore important that you and the recipient of any gift are aware of the possible tax implications, as the recipient could be asked to settle any tax arising from the gift after your death.
So, what allowances and exemptions should you be aware of?
The small gift allowance
Think of this as the stocking filler of inheritance tax allowances. You can give away up to £250 per person per tax year to as many people as you like, completely free of inheritance tax. Just remember, you can’t combine this with other allowances for the same person.
Your annual gift allowance
Every year you can gift £3,000 in total without inheritance tax concerns. This excludes gifts which fall under the small gift allowance above. If you didn’t use last year’s allowance, then you can carry it over for one year, so that’s up to £6,000 of festive cheer that you can hand out tax-free. Be aware, however, that you must use this year’s allowance before you begin to dip into the allowance for the previous tax year, and you cannot roll unused allowances forward for more than one year.
The wedding allowance
Weddings are a time of celebration and the tax rules agree. If you are making a gift to someone who is getting married or entering a civil partnership, then you can give:
- £5,000 to your child
- £2,500 to a grandchild
- £1,000 to anyone else
All without the gift counting towards inheritance tax. To reduce your estate for inheritance tax, consider using your available allowance. This is especially useful if a close friend or family member of yours is getting married.
The regular gifts out of income exemption
A lesser-known exemption is the exemption for regular gifts made from your income. If your income covers your living expenses, you can give regular gifts from that income without paying inheritance tax.
You could consider helping a grandchild by paying some rent or contributing to their school fees. Another option is to transfer money into a savings account or ISA for them.
The key is that these gifts must be regular and affordable in the context of your wider estate. You must also make the gifts from income, and you cannot sell off capital assets to afford the payments.
Spouse and charity exemption
Certain beneficiaries are not subject to inheritance tax. The most common beneficiaries who are exempt are your spouse or civil partner, and charities.
Giving gifts to your spouse and to charity is important in estate planning. This is especially true if you have a terminal diagnosis or if there is a big age gap between you and your spouse.
The seven year rule
Larger gifts that exceed the limits and are not exempt can still avoid your taxable estate. This is true if you live for seven years after giving them. These are called potentially exempt transfers. If you pass away within seven years, but after three years have passed, then there will be tapering relief on the value of the gift for inheritance tax purposes.
Gifts with reservation of benefit
You need to be careful when giving gifts. If you “give” something but still use it, it may not count as a real gift.
For example, if you give your house but still live in it for free, it won’t count for inheritance tax. HMRC will still treat the gift as part of your estate for inheritance tax purposes. In short, you can’t have your Christmas cake and eat it too!
Wrapping up
Whether you’re slipping small gifts under the tree, helping a loved one get their start on the property ladder or in their married life, or supporting charities, there are plenty of ways to give generously whilst keeping inheritance tax at bay. Like planning your Christmas shopping early, a little forethought goes a long way. The result? More joy for your family and less for HMRC’s stocking.
Giving you the full picture
This guide gives a short overview of possible exemptions and allowances for inheritance tax. It should not be relied upon for specific tax advice.
If you would like to discuss your estate’s current inheritance tax exposure and possible gifting methods that may be available to you, then contact the team on 0808 256 5832 and ask to speak with a member of the Private Client department, who will be more than happy to assist.
