Making a gift to your family and friends while you are alive can be a good way to reduce the value of your estate for Inheritance Tax purposes, ensuring those closest to you benefit from a lifetime of your hard work. Estate and tax planning is a complex area and professional financial advice can help you avoid several big pitfalls when making a gift.
1. Gifting during your lifetime
Married couples and civil partners are allowed to pass their estate to their spouse tax-free when they die. In other words, the surviving spouse can inherit the entire estate without having to pay Inheritance Tax (IHT). They can also pass on their unused tax-free allowance to their surviving spouse or civil partner.
For example, if a husband dies and leaves all his estate to his wife, she can take his allowance of £325,000 and add it to her own tax-free allowance. However, if the husband’s estate is £300,000 and he left it all to his brother, the wife would only be entitled to the remaining £25,000.
Gifts to an unmarried partner might incur Inheritance Tax, as may the gifting of non-cash assets to children and family members just before passing away. What and how much you wish to give your children or other members of your family is completely up to you. Put simply, if you live more than seven years from when you make this gift, your children or family will not have to pay Inheritance Tax (IHT) on your gift when you die. However, if do not live for more than seven years after you have made the gift, they might have to pay some or all the Inheritance Tax.
This means if you are thinking about giving away money or assets to your family and friends to reduce Inheritance Tax, it is very important you make a record of the gifts.
This will make it easier for the executor of your estate to work out during probate what parts of your estate are liable for tax.
2. Charitable Donations
To encourage more people to leave money to charity, any cash or physical asset you leave to a qualifying charitable body, either during your lifetime or in your Will, would be exempt from Inheritance Tax (IHT).
This can also reduce the rate at which IHT is due from the current rate of 40% down to 36%. This reduced rate would only apply if the value gifted to charity amounted to at least 10% of the “net estate” at the date of death. Potentially saving thousands of pounds.
3. Annual Gifting Allowance
While you are alive, you have a £3,000 ‘gift allowance’ a year. This is known as your annual exemption.
This means you can give away assets or cash up to a total of £3,000 in a tax year without it being added to the value of your estate for Inheritance Tax (IHT) purposes.
Any part of the annual exemption which is not used in the tax year can be carried forward to the following tax year. It can only be used in the following tax year and cannot be carried over any further.
Certain gifts do not count towards this annual exemption. As such, no Inheritance Tax is due on them such as gifts of up to £250 to as many individuals as you want. Although not to anyone who has already received a gift of your whole £3,000 annual exemption. None of these gifts are subject to Inheritance Tax.
4. Gifts from your surplus income
If you have enough income to maintain your usual standard of living, you can make gifts from your surplus income. For example, regularly paying into your child’s savings account, or paying a life insurance premium for your spouse or civil partner.
To make use of this exemption, it is very important that you keep very good records of these gifts, otherwise, Inheritance Tax might be due on these gifts when you die.
The rules for this exemption are complex – for example, these gifts must be regular, so you need to be committed to keeping up with making these gifts.
It is best to speak to your adviser first if you want to use this exemption, but it can be used to help build an effective intergenerational plan. Grandparents can also use it to pay for things like their grandchildren’s school fees.
If you would like to discuss gifting in more detail, then why not get in touch and one of our expert Wealth Strategists will be pleased to discuss your options with you.