There has been much chatter in the press recently regarding the abolition of Inheritance Tax (IHT).
However, for the time being, and for the foreseeable future I expect, it remains a thing and should be planned for accordingly.
One effective way to do this is via gifting.
If you make a gift during your lifetime, it becomes exempt from IHT after seven years.
However, many people are unsure how to report these lifetime gifts to the taxman (HMRC).
Why make lifetime gifts?
In general terms, Inheritance Tax becomes applicable to estates valued at £325,000 (£500,000 if a Residence Nil Rate Band is applicable) or above.
This threshold doubles to £650,000 (£1,000,000) if a person passes away and transfers their £325,000 tax-free allowance (and £175,000 Residence Nil Rate Band ) to their spouse or civil partner.
As a result, if you anticipate your estate surpassing these values, making lifetime gifts can present a strategic approach to minimise potential Inheritance Tax liabilities in the future.
How do lifetime gifts work?
If you make a lifetime gift and live for more than seven years, then no Inheritance Tax is payable at all.
However, if you live for less than that time, tax rates are applied on the following sliding scale:
- 0-3 years: 40%
- 3-4 years: 32%
- 4-5 years: 24%
- 5-6 years: 16%
- 6-7 years: 8%
- 7+ years: 0%
As you can see, the earlier you plan, the more likely it is that your gift will attract the nil rate of IHT.
However, it’s worth noting that you can take out Inheritance Tax insurance.
These policies, often referred to as ‘gift inter vivos’ plans, provide coverage for any tax liabilities if the individual who made the gift passes away within the seven-year period.
How do I report a lifetime gift?
Lifetime gifts are also known as PETs, or ‘potentially exempt transfers’.
One way to report them is through using a Schedule IHT403 form.
You are not obliged to do this though (either when you make the gift or even during your lifetime).
However, if you don’t complete the form, your executors will need to do so as part of the probate process.
Therefore, it is important to keep a detailed record of your gift. Your executors and beneficiaries will thank you for it.
What records should I keep?
If you make a lifetime gift, you should keep a record of the following information:
- The date of the gift
- Who received the gift
- The value of the gift
- Where the funds came from
- Any applicable exemptions
Further reading
Using gift allowances to reduce IHT: Six tips on using gifts to reduce Inheritance Tax
The gift that keeps on taking: Understanding gift with reservation of benefit rules
