Gifting in the UK to Mitigate Inheritance Tax (IHT)

Inheritance Tax (IHT) can be a significant burden on families when wealth is passed down through generations. The tax at 40% is levied on estates over £325,000 and can take a large portion of the estates’ value if not properly planned for. However, one of the most effective ways to mitigate IHT liability is through gifting. Here, we explore the types of gifting strategies that can help reduce the IHT burden and ensure your wealth is transferred efficiently to your beneficiaries.

Lifetime Gifts

One of the simplest and most common ways to reduce an estate’s value for IHT purposes is by giving gifts during your lifetime. This not only reduces the value of your estate but can also make a significant difference in the overall tax liability.

• Annual Exemption: In the UK, you can gift up to £3,000 each year without incurring any IHT liability. This exemption can be carried forward for one year, meaning you can gift £6,000 in one tax year if you didn’t use the exemption in the previous year.
• Gifts for weddings: Each tax year, you can give a tax-free gift to someone who is getting married or starting a civil partnership. You can give up to £5,000 to a child; £2,500 to a grandchild or great-grandchild; or £1,000 to any other person.
• Small Gifts Exemption: You can also gift up to £250 per person, per year, to an unlimited number of people, as long as you haven’t used the annual exemption on the same individual.
• Gifts Out of Income: If you have surplus income (after covering your living expenses), you can make regular gifts out of this income without it being subject to IHT. These gifts are exempt from IHT, provided they don’t affect your standard of living.

Potentially Exempt Transfers (PETs)

A gift can be classified as PET if it is made to an individual and is outside the scope of any exemptions. While the gift is considered outside the estate for IHT purposes, it remains liable for tax if the donor dies within seven years of making the gift. The tax payable depends on how many years have passed since the gift was made.

• Seven-Year Rule: If the donor survives for at least seven years after making the gift, it will be exempt from IHT. However, if they pass away within this period, the gift becomes subject to tax. The tax rate is tapered, meaning the closer to seven years the donor survives, the lower the IHT charge on the gift.
• Taper relief: Years between gift and death, 3 to 4 years = 32% IHT, 4 to 5 years = 24% IHT, 5 to 6 years = 16% IHT, 6 to 7 years = 8% IHT and 7 or more = 0% IHT payable.

Gifts to Charities

Another powerful strategy for reducing IHT is gifting to charity. Gifts to registered charities are 100% exempt from IHT. Moreover, if you leave at least 10% of your estate to charity, the IHT rate on the remaining estate is reduced from 40% to 36%. This offers a dual benefit: charitable giving and a reduction in IHT.

 Trusts and Gifting

For larger estates, using trusts can be an effective way to mitigate IHT. By placing assets into a trust, they are no longer considered part of your estate, provided you don’t retain control over them. There are various types of trusts available, such as discretionary trusts or life interest trusts, each with its own tax implications and benefits.

Conclusion

Gifting is an important tool in reducing IHT liability in the UK, and there are a variety of options available to help individuals lower the value of their estate for tax purposes. Whether through the annual exemption, gifts out of income, or trusts, there are strategies that can help ensure your wealth is passed on to your beneficiaries with minimal tax consequences. However, IHT planning can be complex, so it’s wise to seek advice from a financial advisor to ensure that your gifting strategy aligns with your long-term financial goals.