You will have read in the first item in our Techie Stuff section (oh yes you have … you know you have!) about HMRC’s concerns about taxpayers making gifts without appreciating that rules exist about how, when gifts are made, there may be Inheritance Tax consequences. But HMRC are not the only ones to have carried out research on this matter of Lifetime Gifting and the lack of awareness about potential tax consequences.
Following an in-depth study conducted by the National Centre for Social Research (NCSR) and the Institute for Fiscal Studies (IFS), it has been discovered that only one in four people making financial gifts are aware of the risks of potential inheritance tax charges. Further to this, they found that only 45% of gifters reported being aware of inheritance tax rules and exemptions when they gave their largest gift.
A staggeringly low 8% of respondents considered tax rules before making a financial gift and most did not associate gifting with inheritance tax. When compared with the fact that over half of respondents said that they planned to leave inheritances, it’s obvious that there seems to be a gap in gifter’s knowledge.
For those who were aware of the rules surrounding inheritance tax, 54% said this influenced the value of their largest gift. This was most prevalent amongst affluent taxpayers who had assets of £500,000 or more. Respondents below this threshold had more limited knowledge of the long-term effects of inheritance tax, the seven-year rule or the annual limit on gifts.
So, what are the key rules about Lifetime Gifts to which HMRC refer (please note this is not a comprehensive summary of Lifetime Gifting or of IHT overall)?
* The IHT Threshold: The current starting threshold for inheritance tax for a single person is set at £325,000. This amount is then doubled for married couples and civil partners, who also have the additional benefit of the residential nil-rate band, which allows for a further £150,000 of tax-free, property-based inheritance per person. This particular allowance is set to rise to £175,000 as of the 6th of April 2020.
* Potentially Exempt Transfers (PET): Most gifts made by an individual during their lifetime, to another individual, will be exempt from IHT unless the donor dies within seven years of making the gift. An unsuccessful PET is taxed depending on how long the gifter has lived following the giving of the gift and is referred to as ‘taper relief.’ If a gift is given less than three years before death, the full rate of 40% IHT is applied to the gift, tapering off to 8% if the gift was made between six to seven years before death.
* Tax-free Gifts: These include gifts to spouse or civil partner; gifts to charities and qualifying political parties; and help with another person’s living costs (e.g. elderly relative/child under 18).
* Annual Exemption: You can give away £3,000 worth of gifts each tax year (6 April to 5 April) without them being added to the value of your estate. This is known as your ‘annual exemption’. You can carry any unused annual exemption forward to the next year – but only for one year.
* ‘Normal’/Regular Gifts paid for out of Income: Only if they are made as part of your normal expenditure and are made out of your ‘natural’ income and, after allowing for all transfers taken from normal expenditure, you are left with sufficient income to maintain your usual standard of living, and the payments are habitual or regular. HMRC’s example is “paying for a meal”! But there are other opportunities!
* Gifts in Consideration of Marriage/Civil Partnership: Up to £5,000 depending on your relationship to the recipient.
* Small Gifts Exemption: For smaller gifts, you can give as many gifts of up to £250 per person as you want during the tax year as long as you have not used another exemption on the same person.
* Gifts with Reservation: Be aware when it comes to transactions with a reservation of benefit. For example, if you give away your home to your children and continue to occupy it rent-free, the property is still considered as forming part of your estate immediately if the worst were to happen. An individual cannot retain possession of a chattel or property whilst making a PET.
Though it may be difficult to plan for the worst, knowing how to best mitigate the tax surrounding gifts and inheritance can help you make key financial decisions at the most opportune moments, and prevent any avoidable losses when it comes to sharing your assets with the people and organisations that matter most to you.
Remember, we are here to help so please do not hesitate to contact us regarding your financial planning situation – Reviews are part of our added-value services for our clients.
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