Topic

The Impact of Gifts

Most gifts are classified at Potentially Exempt Transfers (PETs) which means they may or may not be subject to inheritance tax. 

Some gifts are immediately chargeable however (Lifetime Chargeable Transfers or LCTs) and others are immediately exempt. You should also be aware of Gifts with Reservation. 

PETs

An individual can give away an unlimited amount of money (or any value of assets) to any other individual and not have to pay any IHT providing that they survive for at least 7 years from the date of that gift. 

Other taxes may be payable on the transfer (capital gains tax for example) but for IHT purposes the 7 year rule applies. 

If the transferor of that gift, dies within 7 years then the gift may be chargeable to IHT. For this reason these type of gifts are called Potentially Exempt or in other words exempt if you survive 7 years. 

If the transferor dies within 7 years then the value of these gifts reduce the available NRB for the death estate. 

If the value of the gifts exceed the NRB then the gift themselves are subject to IHT and there is no NRB available for the death estate.

Exempt Transfers

Transfers of value to a spouse (or civil partner) or to a charity are immediately exempt transfers. They are not PETs as they are fully exempt. 

Gifts to charity can also afford the individual an income tax advantage. 

Other exempt transfers include:

  • Gifts up to the Annual Allowance

Every individual can give away up to £3,000 a tax year without any IHT liability. 

If an individual has not used their annual allowance in the previous tax year they can use it to double the tax free amount they can give away in the current tax year.

This meaning they can give away £6,000 tax free. 

However, this can only roll over once so if an individual wants to make a gift in 2020/2021 and has not previously made any gifts he can use the £3,000 allowance from 2020/21 and the unused £3,000 from 2019/2020 but he cannot use the £3,000 from 2018/2019 or any previous year. 

Once the annual allowance has been used all remaining gifts in that tax year (that are not otherwise exempt) are either potentially exempt or a lifetime chargeable transfer. 

Gifts that exceed the annual allowance can deduct the available annual allowance from the total to determine how much of the gift is potentially exempt. 

For example:

Noah gifts £10,000 to his daughter. He has made no previous gifts so can deduct £6,000 from that total and only £4,000 is potentially exempt. 

  • Small Gifts 

Any number of gifts up to £250 per recipient in any one tax year qualify for the small gifts exemption. The rule here is that no one recipient can receive more than this in any tax year. 

This is an all or nothing exemption. If gifts exceed £250 you cannot deduct the £250 from the value of that gift. 

There is no 7 year rule applied to these small gifts and generally these are considered to cover Christmas, birthday, anniversary, Easter and other religious holiday gifts.  

  • Regular Gifts from Surplus Income

If an individual has income left over after all of his or her expenditure in any given period, that surplus income can be given away without it becoming a PET. 

For example:

Noah has income after income tax of £3,000 a month and his expenditure including his mortgage, utility bills, food, council tax, holiday savings, funds for his hobbies, clothing, entertainment costs etc amount to £2,500 a month. He thus has £500 a month of surplus income which he can give away should he choose without the gift being chargeable to IHT. 

The gift must be of genuinely surplus income, must be regular and records must be kept to verify this exemption. 

This exemption can be used in conjunction with the annual allowance for larger gifts. 

  • Gifts on the occasion of a marriage/civil ceremony

An individual can give £5,000 away on the occasion of a marriage to their child, £2,500 to a grandchild or £1,000 away to other relatives in addition to the annual allowance without the gift being deemed a PET.

Each parent has this allowance so £10,000 could be given to a child tax free on the occasion of their marriage. 

LCTs

Lifetime chargeable transfers are those transfers of value when IHT is immediately payable. 

An example here is a gift to a trust or a gift to a company in which the transferor does not have a 100% shareholding. 

If the transferor of the gift has not made any earlier LCTs then the first £325,000 (i.e. the NRB) of the value of these gifts are taxed at 0% at the time the gift is made. 

If the gift to the company or trust exceeds the available NRB the value to which it exceeds this is subject to tax at 20%. This is due 6 months after the end of the month of the transfer. 

If the transferor dies within 7 years of making this gift then the gift is recalculated. Any potentially exempt transfers are brought into account to reduce the available NRB and the remainder is then taxed at 40% (less a credit for the tax already paid). 

Gifts with Reservation

If someone makes a gift but continues to enjoy the use of the asset, this is a gift with reservation of benefit (GROB) and will be treated for IHT purposes that its value still forms part of the transferor’s estate.

A common example of this would be a transferor putting their house into the names of their children but continuing to live there rent free. Such an exercise is futile for IHT and can lead to both CGT and SDLT implications for the recipients down the line. 

If they later move out of the property the gift is no longer a GROB but 7 years would need to pass from the date they move out, before this is no longer a PET.