One way to reduce the potential Inheritance Tax (IHT) liability on death is to reduce the value of an individual’s taxable estate by making gifts during lifetime. Effective use of the annual and lifetime exemptions detailed below can save IHT.
Exempt Transfers
Gifts of up to £3,000 per annum in total are eligible for the annual exemption, and will be immediately exempt from IHT. If your £3,000 annual exemption is not used (or only partially used) then any unused amount can be carried forward for one year only. An individual may therefore be able to give away £6,000 IHT free if they have not made other recent gifts
In addition, small gifts of up to £250 per recipient per year can be made which are exempt from IHT. However, this exemption cannot be combined with the annual gift exemption of £3,000 for example to make an exempt gift of £3,250 to one individual. There is no restriction on the number of recipients who receive up to £250 per tax year so this is a useful exemption for Christmas and Birthday presents.
In addition, gifts made to a person who is about to get married or enter into a Civil Partnership can be IHT free. The limits on the amounts are £5,000 if made by a parent, £2,500 if made by a grandparent or one party to the marriage to the other, and £1,000 if made by anyone else.
Regular gifts from surplus income (not capital) may also be exempt from IHT provided that they are frequent (say annually) and do not affect the donor’s standard of living. The amounts do not have to be the same but a pattern taking one year with the next must be established. Detailed records need to be kept in order to help the executors claim this relief and written evidence of the intention to make payments is recommended.
Once a pattern is established the amounts become immediately free from Inheritance tax with no 7 year survivorship being required (see below). Therefore the importance of this exemption should not be ignored.
Other gifts which are exempt from IHT are:-
- Gifts to spouses
- Gifts to UK registered charities
- Gifts to Political Parties
- Gifts for National purposes
Potentially Exempt Transfers (PETs)
A PET is any transfer which is in excess of the lifetime gift exemptions made during lifetime from one individual to another individual (but, not to a trust).
Provided that the donor survives for 7 years from the date of the gift it will be exempt from IHT, otherwise the gift becomes a “failed PET” and will be included in the estate and assessed to IHT.
In respect of PET’s made between 3 and 7 years before death, if there is any Inheritance tax due on that gift it will be reduced by between 20% and 80%, and therefore the sooner gifts start being made, the sooner the 7 year clock starts ticking!
Please note that for Inheritance tax to apply, lifetime gifts after deducting the exemptions mentioned above, will need to be in excess of the nil rate band allowance of £325,000.
If you would like more advice regarding your specific circumstances, please do not hesitates to contact Rachael Dronfield.
