Update 30 October 2024 – Following the Budget announcement today, some of the details mentioned in this insight may have changed. Please visit our Budget page for further information.
The Autumn Budget is the first ‘set piece’ of the new Labour Government. Whilst some headline tax policies have already been announced – changes to the non-dom regime and VAT on school fees – the government’s silence on possible changes to Inheritance Tax and Capital Gains Tax is a worry for many.
Individuals and families who are concerned about their exposure to IHT and CGT are exploring and accelerating their gifting plans.
The rules on gifting are well established and have remained unchanged for many years, but questions and confusion remain. Here is a reminder of the more common gifting rules.
Currently, on death, if an individual’s estate exceeds the nil rate band of £325,000 or £500,000 where the family home is included (called the residence nil rate band or RNRB), it will be liable for inheritance tax at 40%. Married couples benefit from a combined IHT threshold of £1m before paying inheritance tax, with the RNRB tapered when an estate exceeds £2m before any reliefs are applied.
CGT is charged at 24% (for higher rate taxpayers) on the gains of second homes and investment property and at 18% on many other assets. Reliefs have gradually been eroded, now limited to just £3,000 and may well change further in this year’s Budget.
Gifting remains a useful and popular way to reduce exposure to inheritance tax and reduce any capital gains tax liabilities.
Everyone can make an annual gift of £3,000 without any IHT implications. If a gift is not made in one tax year it is possible to carry it over into the following year, meaning a gift of £6,000 can be made with no IHT implications.
Additionally, any number of small gifts of up to £250 can be made in any tax year, however recipient can receive such a gift once in any tax year and it is not possible to ‘roll over’ gifts into a subsequent tax year.
Gifting becomes a little more generous when children or grandchildren marry or enter into a civil partnership. Parents can gift up to £5,000 and grandparents up to £2,500. This is in addition to the annual gift allowance but not the small gift allowance.
Despite several promises from previous governments, these gift allowances have remained unchanged for over four decades, meaning their value in today’s financial terms is much diminished.
The seven-year rule
Gifts made over these amounts will trigger the seven-year rule. In short, if the donor lives for seven years or more after the date of the gift that gift will be exempt from inheritance tax. If the donor were to die in that seven-year window a tapered rate of IHT will apply to those gifts.
There is, however, one and often overlooked rule – gifts out of surplus income.
Gifts out of surplus income provide a useful way to make regular gifts of any size without triggering the seven-year rule. The rules are complex but essentially allow regular gifts to be made out of a donor’s income as long as they do not have any impact on their day-to-day standard of living. This is particularly useful where grandparents have, for example, high levels of pension or investment income.
Keep a gifting record
It is not uncommon for parents and grandparents to make regular gifts over many years, perhaps to help with school fees or to get onto the property ladder, and this can create a complicated IHT tail with different gifts attracting different rates of inheritance tax.
HMRC will take considerable interest in gifting when determining the amount of IHT due on an individual’s estate, particularly where gifts are made out of surplus income.
It is recommended that a record of those gifts is kept, including the dates and amounts given, the details of the recipient together with bank account details. This gift record can prove invaluable to loved ones and the executors of an estate following the death of a loved one.
Gifts with reservation of benefit
There is often the temptation to gift property or other assets, such as jewellery or artwork, to children yet continue to live in a property or use and enjoy other assets, perhaps wearing a favourite piece of jewellery or keeping a picture on your wall.
HMRC considers these gifts with reservation of benefit, and they can have unforeseen tax implications should an individual die within seven years of the gift being made. HMRC may decide that a gift has not truly been made and require IHT to be paid in full or consider it a partially exempt transfer with IHT charged at the relevant tapered rate.
Where gifts are made they need to be true gifts with the donor having no tangible benefit from that gift or paying a commercial rate, such as a market property rent, for their continued use for it to fall outside of their estate.
For further information or advice in tax-efficient gifting contact Debbie Wilson at debbie.wilson@hhllp.co.uk.
