For professional advisers only. Not to be relied upon by retail investors.
Clients worried about leaving behind an inheritance tax liability can always ‘gift’ their assets away during their lifetime. But gifting strategies can be complex. Here are seven things to remember when discussing gifts and gifting strategies with your clients.
1. Some gifts are always inheritance tax-free
Any gifts between spouses or civil partners are free from inheritance tax. HM Revenue & Customs also gives individuals an annual gifting allowance of £3,000 every year. This is called the ‘annual exemption’. Individuals can also make small gifts (up to £250) to as many different people as they like, but they cannot use their annual exemption and small gift exemption on the same person in the same year. Of course, when it comes to reducing potential inheritance tax liabilities, smaller gifts are likely to have less of an overall impact.
If the full £3,000 annual exemption isn’t used in one tax year, clients can ‘carry over’ the remainder and use it the following tax year. However, the maximum exemption is £6,000 and carry-over can only be used for one year.
Wedding gifts are also free from inheritance tax, provided they are kept within certain limits. Clients can make a wedding gift of up to £5,000 for their child, up to £2,500 for their grandchild, up to £2,500 as a gift to their spouse or civil-partner-to-be, or up to £1,000 to anyone else.
2. But other gifts typically take seven years
A potentially exempt transfer (PET) is a gift that becomes inheritance tax-exempt provided the giver survives for a period of seven years after the gift is made. There is no limit on the amount that can be gifted in this way. However, if the person who made the gift dies within seven years, the value of the gift will be included in their estate. The person receiving the gift will often have to pay any inheritance tax due.
3. Taper relief and the ‘seven-year cliff’
Taper relief is a sliding scale that reduces the rate of inheritance tax payable on a PET if the client survives between three and seven years. However, taper relief only applies when the value of any gifts made within the seven years prior to death exceeds the nil-rate band. If the gift falls within the client’s nil-rate band, the tax-free allowance will be allocated against the gift in priority, so that even if the client survives into years four to seven, taper relief is not relevant. Taper relief will only help where gifts worth more than £325,000 have been given away in the seven years before death (or £650,000 for someone who has inherited a nil-rate band from their spouse). As a reminder here’s a breakdown of rates of taper relief:
|Time between making|
gift and death
|0-3 years||No taper relief|
|Over 7 years||No inheritance tax due|
4. Gifts with reservation of benefit, pre-owned assets
Of course, gifting rules don’t apply solely to cash gifts. Other assets also qualify. However, clients who think they can make a gift of the family home and remain living there, shouldn’t expect that the value of the property will escape inheritance tax after seven years. These are called the ‘gift with reservation of benefit’ provisions – typically if the client gives an asset away but continues to benefit from it during their lifetime, the value will still be included as part of their estate upon death.
5. Gifts from regular income
Not a straightforward topic, but each year, clients can give away from ‘surplus regular income’ as much as they feel comfortable with – without it being considered a PET. However, there are some caveats to be aware of. The gifts must be made from surplus income, so clients can’t choose to give away their income and live off their capital. They need to be able to demonstrate that they have enough regular income to make gifts while maintaining their standard of living on an ongoing basis. It can be helpful for a client to establish a pattern of regular gifting of similar amounts over time in order to demonstrate that the conditions for this relief are met.
6. The residence nil-rate band doesn’t apply to lifetime gifts
The new residence nil-rate band (RNRB), introduced from 6 April 2017, only applies to a property that has been the deceased’s home at some point during their life. And it only applies to properties that are passed down on the death of the deceased, or the proceeds thereof where they downsize prior to death. So clients who have made a lifetime gift of the only home they own won’t be entitled to claim the residence nil-rate band.
7. With a gifting strategy, once you use it you lose it
Finally, when it comes to making gifts, changing your mind can be difficult. One of the biggest reservations that clients have when thinking about making gifts is that once the assets are given away, the giver loses control over them forever. For those who feel confident of living for at least a further seven years, it can be difficult to weigh up how much they feel comfortable giving away, while making sure they still have enough to live on during the rest of their lives.
If you have clients who are considering making a gift, but are worried about giving up access to, and control of, their assets without realising any inheritance tax benefit – you might find our new IHT gifting calculator helpful. This simple-to-use tool lets you remove some of the guesswork around gifting, for both you and your clients. Just input the details of your client’s estate, make a note of any gifts made in the last seven years, and let our tool do all the calculations – including the potential benefit of taper relief and the annual allowance – for you.
Our illustrator also lets you compare whether choosing investments that qualify for Business Property Relief (BPR) which become free from inheritance tax after just two years, could be complementary in helping your clients to plan for their estate. In addition, unlike with a gift, the investor retains control over their investment for the rest of their life. They can sell it and get the proceeds back should they need to – however, investments that qualify for BPR are considered to be high risk. The value of a BPR investment, and any income from it, can fall as well as rise. Investors may not get back the full amount they invest. The availability of tax relief depends on individual circumstances and could change in the future. Tax relief also depends on the portfolio companies maintaining their BPR-qualifying status. The shares of BPR-qualifying companies could fall or rise in value more than shares listed on the main market of the London Stock Exchange. They may also be harder to sell.
For more estate planning tools and ideas, particularly around BPR-qualifying investments, please talk to your local Octopus Business Development Manager or visit our inheritance tax tools page.
For professional advisers only. Not to be relied upon by retail investors. Personal opinions may change and should not be seen as advice or a recommendation. Business Property Relief investments are not suitable for everyone. Any recommendation should be based on a holistic review of your client’s financial situation, objectives and needs. We do not offer investment or tax advice. We recommend investors seek professional advice before deciding to invest. Issued by Octopus Investments Limited, which is authorised and regulated by the Financial Conduct Authority. Registered office: 33 Holborn, London, EC1N 2HT. Registered in England and Wales No. 03942880. Issued: November 2017. M2-CAM06063.