The inheritance tax due on your estate may be as much as 40%. This means a large chunk of your estate may be paid in tax and not pass to your family, friends or charity (whichever you would prefer). Whilst it would probably be a mistake to let a potential tax liability dictate what you do with your money, there are ways of reducing your estate during your lifetime in the form of gifting.
One way to reduce the size of your Estate and therefore your potential inheritance tax liability, is to make gifts during your lifetime.
This can be a complicated area of estate planning. There are different rules depending on your relationship with the recipient, when the gift was made in relation to your death, how much the gift was worth and whether you retained some control or continued to benefit from the gifted property. Therefore, it is recommended that you seek advice from a professional before making any decisions.
The seven year rule
There is usually no inheritance tax due on death in relation to any gifts made more than seven years before your death.
However, if you die within seven years of making certain gifts, there may be inheritance tax to pay. The amount will depend on when you made the gift and the availability of your nil rate band (the tax-free amount each person is entitled to).
If you made the gift in the three years before your death, it will be taxed at 40% if you have no nil rate band to offset against it.
If the gift was made three to seven years before your death, the tax will be calculated on a sliding scale, known as 'taper relief'. The older the gift, the less tax due. The taper applies to the tax due and not the amount of the gift.
You may make annual gifts totalling £3,000 to any one individual or split between numerous people as long as the total does not exceed £3,000 and is not covered by another exemption.
Any unused annual exemption can be carried forward to the next tax year, but not beyond. The current year exemption is used in priority to the brought forward amount.
Gifts made to UK-domiciled spouses or civil partners are exempt from inheritance tax. A gift to a non-UK domiciled spouse or civil partner is only exempt up to the availability of the nil rate band, unless the non-domiciled partner/spouse elects to be treated as UK domiciled for inheritance tax purposes. The same does not apply to co-habitants; you must be legally married or in a civil partnership.
Gifts made to registered charities and political parties will also not be taxed.
You may make as many gifts of up to £250 per person in the tax year providing that you have not used another tax allowance for that person.
Wedding or civil partnership gifts
You may make a tax-free gift to somebody getting married or starting a civil partnership.
If the recipient is your child you may gift up to £5,000. A grandchild or great grandchild may receive £2,500. You may gift any other person up to £1,000 tax-free for this purpose.
Retaining the benefit
If you retain the benefit of a gift, it may incur an inheritance tax liability.
An example of this is when you give away your home to a relative but still live there. A further example would be if you gave away a painting but kept it on your wall so you can look at it.
This is known as a 'gift with reservation of benefit'. This can result in a double tax charge so advice should be taken before making substantial gifts, particularly if you want to continue to benefit from the asset.
Regular gifts out of excess income
You are able to make gifts out of your excess income, provided they are made regularly to the same person (for example, £200 a month for a grandchild's school fees). The payments must be out of excess income after taking account of your usual expenditure. This includes things such as mortgage, utility bills, food, regular subscriptions, etc. It is not possible to argue that the usual expenditure comes from capital and that all your income is therefore excess to your needs.
What to do next
Clearly, there is a lot to think about when planning for inheritance tax and making. It is important to keep clear records of any gifts that you make and take advice before making any gifts. In addition to an inheritance tax liability, you may also have a capital gains tax liability to consider and this can be fairly hefty.
Once a gift has been made, it is very difficult to undo regardless of whether you have inadvertently triggered a tax bill.
Above are just some of the things to think about. This is not an exhaustive note and should not be relied upon for tax advice as everyone's circumstances are different. What works for you may well create a massive tax liability for someone else. The golden rule is to always take advice from a specialist adviser.
If you would like to discuss your plans or would like to know how lifetime gifting can help reduce your inheritance tax liability, please call the Gepp Solicitors Private Client team on 01245 228125 or email us on PrivateClientEnq@gepp.co.uk.
This is not legal advice; it is intended to provide information of general interest about current legal issues.