Lifetime gifts: When is a gift not a gift?
Inheritance Tax (IHT) is the tax which is levied on the estate of someone who has died. By making lifetime gifts, you may be able to reduce the IHT payable on your death and therefore increase the amount of money you can pass to your loved ones. However, if the gift fails to meet certain criteria, then it might not have the desired effect.
Lifetime gifts may fall into three categories:
- Exempt Gifts
These are always worth exploring first. If you die shortly after making the gift, then its value will be ignored for IHT purposes. Several exemptions exist, including an annual exemption which means you can give away £3,000 worth of gifts each year without them being added to the value of your estate. You can also make small gifts of £250 to different recipients and also slightly larger gifts on the event of the marriage of a child. A less well known but useful exemption allows you to make regular gifts out of income. As long as you leave yourself with sufficient funds to maintain your usual standard of living, then the gifts will be entirely exempt provided you have established a pattern of giving.
- Potentially Exempt Transfers (PET)
If a gift is a PET, then it will only become exempt for IHT purposes if you survive the gift by a period of seven years.
- Immediate Chargeable Transfers
If your gift falls within this category, then you may face an immediate charge to IHT (at reduced lifetime rates) as soon as you make the gift and a further charge if you should die within 7 years. Gifts to certain trusts are regarded as chargeable transfers. They may nevertheless be useful as part of a tax planning exercise where you do not wish to pass over complete control of an asset e.g. to a child. The tax rules are complex and you should take specialist legal advice.
Tread carefully though, there are a number of traps to avoid:
Reservation of benefit
If you give away an asset but continue to receive a benefit from it – like gifting your house but continuing to live there – then you may still be treated as owning it on your death.
These are complex income tax rules which may apply when the reservation of benefit rules aren’t valid. For example, you may sell your house and gift the proceeds of sale but, if the recipient later purchases a house and you subsequently move in, then you may be unexpectedly subject to an income tax charge on a deemed market rent.
Deprivation of assets rules
If you give away an asset and subsequently require care, then a Local Authority may seek to apply these rules when carrying out a financial assessment to determine your contribution to the cost of your care. You may be treated as if you still own that asset for the purpose of the assessment.
Immediate tax issues
A gift of certain assets (like shares or a second home) may be a disposal for capital gains tax purposes. You could find yourself subject to an immediate charge to tax if the value of the asset has increased since it was acquired. If you create a trust, then you may be able to defer the gain by claiming hold over relief.
In summary, making lifetime gifts may reduce your IHT burden and allow you to increase the amount you pass to your family or friends, but you need to ensure that your gifts have the desired effect and don’t create unforeseen issues. Be careful to take specialist advice before taking any action!
Ann-Marie Matthews is a solicitor in the private client team at Barker Gotelee, Ipswich Solicitors.