Statistics indicate a growing trend of families turning to gifting as a means to mitigate Inheritance Tax (IHT). Although transferring assets to family members may appear to be a straightforward approach, the reality is more complex.
More estates are becoming liable for IHT as thresholds for paying the tax are frozen. The Office for Budget Responsibility predicts HMRC will collect £8.4 billion from IHT receipts in 2027/28, compared to £7 billion in 2022/23.
The part of your estate that surpasses IHT thresholds may face a 40% tax rate. Hence, it’s understandable why families are actively seeking strategies to reduce the risk of incurring a substantial tax bill.
According to a Telegraph report, the number of people who have gifted assets that would become exempt from IHT if they survived a further seven years increased by 48% between 2009/10 and 2019/20.
If the value of your estate surpasses the nil-rate band, which stands at £325,000 for the year 2023/24, your estate could potentially become subject to Inheritance Tax (IHT). Additionally, there is an option to utilize the residence nil-rate band, which amounts to £175,000 in the same tax year, provided you leave your primary residence to your direct descendants.
Furthermore, you have the flexibility to transfer any unused allowances to your spouse or civil partner, allowing for effective estate planning.
Both the nil-rate band and residence nil-rate band are set to remain unchanged until April 2028. Consequently, if the worth of your estate is approaching the threshold, you may face the risk of becoming subject to Inheritance Tax (IHT) as the value of your assets potentially increases over time.
Initiating the gifting of assets to your beneficiaries at this juncture can prove beneficial. Not only can it enable you to support your loved ones in achieving significant life milestones, but it may also serve as an effective IHT mitigation strategy.
Nonetheless, when gifting for IHT purposes, there are certain considerations and guidelines that warrant your attention.
1. Gifting may affect your financial security later in life
Before bestowing a gift, it’s essential to evaluate how it might influence your financial well-being in your later years. Could gifting potentially leave you financially exposed as you age? Might it compromise your capacity to weather unexpected financial challenges?
Incorporating gifts into your comprehensive financial strategy empowers you to grasp the potential short-term and long-term repercussions of your decision. By comprehending these implications in advance, you can enhance your confidence in managing your financial resources.
2. Not all gifts are considered immediately outside of your estate for Inheritance Tax purposes
When gifting with the intention of reducing your Inheritance Tax (IHT) liability, it’s vital to take into account the element of longevity.
Gifts can fall under the category of “potentially exempt transfers” (PETs) and may be considered part of your estate for IHT calculations for up to seven years from the date of the gift. Consequently, if the total value of your estate surpasses the IHT thresholds, your estate could still be subject to IHT on assets you’ve previously gifted.
However, after a span of seven years has elapsed, these gifted assets will no longer factor into the calculation of your IHT liability.
3. There are gifting allowances you may want to make use of
When considering gifting assets to minimize your Inheritance Tax (IHT) liability, there are several allowances at your disposal that can help you do so more efficiently. These allowances enable you to exclude certain gifts from your estate for IHT purposes:
- Annual Exemption: You can make gifts of up to £3,000 per tax year, which will be immediately excluded from your estate for IHT purposes in the year 2023/24.
- Wedding Gifts: You can gift up to £1,000 to someone getting married, £5,000 for your children, and £2,500 for your grandchildren, which will be IHT exempt.
- Small Gifts: Unlimited gifts of up to £250 to any individual who has not received a gift using another allowance can be made without IHT implications.
In addition, regular gifts made from your income may also be exempt from IHT. These gifts should be consistent and can include payments like covering the rent on your child’s home or your grandchild’s school fees.
Leveraging these allowances and exemptions can provide a tax-efficient means to pass on wealth during your lifetime.
There are othes steps you could take to reduce a potential Inheritance Tax bill
Reducing a potential Inheritance Tax (IHT) bill involves more than just gifting. There are various strategies to consider, such as:
- Charitable Donations: Leaving 10% or more of your estate to charity can reduce the IHT rate from 40% to 36%.
- Pension Planning: Passing on wealth through your pension is typically considered outside of your estate for IHT purposes.
- Trusts: Utilizing a trust structure can be an effective way to pass on assets in a tax-efficient manner.
It’s essential to thoroughly evaluate the advantages and disadvantages of these options. In some cases, seeking both financial and legal advice is advisable, as estate planning can be intricate and circumstances vary.
Additionally, you might want to explore whole-of-life insurance policies. While they don’t directly reduce your IHT liability, the payout from such policies can be used by your loved ones to settle the IHT bill.
It’s essential that life insurance is written in trust. Otherwise, the payout could be considered part of your estate and result in a higher IHT bill.
An estate plan can help you set your affairs in order and minimise Inheritance Tax
An estate plan serves as a vital tool for organizing your affairs and reducing the impact of Inheritance Tax (IHT). It allows you to outline your preferences for your later years and the distribution of assets upon your passing. While addressing these matters can be emotionally challenging, it is a crucial task that demands attention.
We stand ready to assist you in formulating an estate plan that aligns with your wishes and addresses any concerns you may have, including the potential influence of IHT on the assets you intend to leave behind. Please reach out to us to arrange a meeting and take the first step toward securing your legacy.
Please note: This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.
The Financial Conduct Authority does not regulate estate or tax planning.
Remember that taper relief only applies to gifts in excess of the nil-rate band. It follows that, if no tax is payable on the transfer because it does not exceed the nil-rate band (after cumulation), there can be no relief.
Taper relief does not reduce the value transferred; it reduces the tax payable as a consequence of that transfer.
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