Giving your possessions away before you die to avoid inheritance tax is not as easy as you might think.
Gifting comes with one proviso – you must hand the asset or belonging to someone else with no strings attached.
For instance, if you gift a property, you cannot have a condition that you live there rent free until you die or that you still receive any rent generated.
Tax tribunals and the courts are littered with legal challenges from beneficiaries who thought they had been gifted a home only to find the conditions attached to the supposed gift still fell within the inheritance tax net and that they had a big bill to pay HM Revenue & Customs (HMRC).
Gifts free of IHT
Once that condition is fulfilled, the gift falls into one of three categories –
- Exempt – that’s a gift free of inheritance tax
- Potentially exempt – sometimes called a PET or potentially exempt transfer that may have some inheritance tax due
- Chargeable – that’s a gift that attracts inheritance tax at the full rate
Gifts free of inheritance tax are:
- Wedding gifts of up to £5,000 from each parent or £2,500 from each grandparent. Friends can give up to £1,000
- Gifts in trust
- Any gifts to UK charities, museums and universities
- £3,000 a year cash
- Any gifts between partners – unless the receiving partner lives outside the UK. If they do, the exemption is limited to £325,000
- Any gifts paid out of income that leave you enough cash to live on
Potentially exempt transfers need careful timing. The gift can be of any value but is not tax free unless you live for at least seven years after the date of the gift.
Structured gifting
Inheritance tax is paid on a potentially exempt transfer on a sliding scale which drops from the highest level in year one to the lowest in year seven.
Although giving is good, it’s important to take expert financial and tax advice before handing over any cash or valuables.
Gifting to avoid inheritance tax is a structured strategy, not a piecemeal shedding of your belongings in a frantic effort to avoid your family or loved ones facing a big bill on your death.
The first step in inheritance tax planning is always establishing your net worth to find out if you have a problem to start with. If you have, then gifting may be an important part of your estate planning toolkit.
