Inheritance tax (IHT) is payable at 40% on all estates that are worth more than £325,000. However with effective will planning, a married couple may be able to pass on an estate worth £650,000 tax free. You may remember in one of my previous newsletters, this amount could eventually increase to £1,000,000 with the introduction of the residence nil rate band.
There are a few other planning opportunities available if you are prepared to consider making gifts of your assets during your lifetime.
IHT gifts exemptions
Everyone can make gifts of up to £3,000 per tax year without having any IHT implications. If you miss a year, you can use both the current and preceding year’s exemption together, making £6,000 in total. However, you must use your current allowance first, before going back to the previous year.
Gifting more valuable assets to avoid inheritance tax
If you gift an asset to another individual and it is not covered by the above, this is known as a Potentially Exempt Transfer or ‘PET’. A PET is fully exempt from IHT provided that you survive the following seven years.
If you were to die during the seven year period, the PET would become chargeable to IHT again, but tapered depending on the length of time between when you made the gift and when you died. Whoever received the asset would most likely have to pay the tax bill.
Can I gift assets and still benefit from them?
The answer is no! For a gift to be effective, it must be an absolute and bona fide transfer to the recipient.
The most common example of this is giving away your home to your children whilst still continuing to live in it. Whilst on paper you no longer own the property and it’s not part of your estate, there are regulations to prevent this type of planning. The ‘Gift with Reservation of Benefit’ (“GWR”) rules effectively ignore the gift and the property is once again included in your estate.
One potential way to overcome this is to pay a market rate rent to your children for continued use of the property, but please seek professional advice before doing so to ensure the rules aren’t breached.
Could I gift cash to my children, who then purchase a home for me?
For inheritance tax purposes, the home being purchased would not form part of your estate, and as you are not directly benefiting from the cash it would not be caught by the GWR rules above.
If things were only that simple!
Instead you would have to pay an annual income tax charge, which in this case would be based on the annual rental value of the property. Also, if your children were generous enough to buy you a brand new car, or a piece of jewellery with this cash, you would have to pay income tax every year based on the current value of the asset. Depending on your other income tax this could be at 20%, 40% or 45%, making this option a lot less appealing.
As ever, please talk to us before making any decisions on plans to avoid inheritance tax, because everyone’s circumstances are different. You can contact either Michael Burgess or Rebecca Thorley on 01782 279615 who will be happy to answer any questions you may have.