If you are considering making gifts, make sure all your inheritance tax (IHT) liabilities are covered.
Today’s treatment of lifetime gifts is extremely generous, which is why interest has increased ahead of the Autumn Budget. If you make an outright lifetime gift to an individual:
• There is no immediate IHT charge, regardless of its size;
• There is nothing to report to HMRC (unless you die within seven years);
• If you survive seven years, there is no IHT to pay and the gift is outside your estate; and
• If you die more than three years after making the gift, any tax payable on it may be subject to taper relief.
Different rules apply if the gift is being made to a trust, but the net tax result will be generally much the same unless the gift exceeds your available nil rate band.
A point to consider when making lifetime gifts is the potential effect on the remainder of your estate. Any gift will reduce your available nil rate if you do not survive for the following seven years, so your remaining estate may suffer more tax than you might expect. The example highlights the issue.
Lifetime Gifts and the Nil Rate Band
Hilary has an estate of £600,000 and all of her nil rate band available. She gives her niece Ann £300,000. She then amends her will to leave her residual estate to her nephew, Andrew, who is at present going through a divorce. Four years later, Hilary dies:
• Ann’s £300,000 has no other allowances to offset against the gift, but is covered fully by Hilary’s nil rate band, (which by 2022 is assumed to be £340,000 because the band will not increase until 2021/22).
• Andrew’s legacy has only the remaining £40,000 of nil rate band to offset against it. There is therefore an IHT bill of £104,000 on the rest of the estate, leaving Andrew with a net £196,000.
A simple way to address the problem is to arrange a seven-year term assurance to cover the extra tax on early death. For lifetime gifts that come to more than the available nil rate band, special ‘inter vivos’ cover can be set up to match the sliding scale of tax liability.
Alternative inheritance taxes
The Office of Tax Simplification has been considering the simplification of IHT and while simplification could mean less administrative hassle, it could herald more reforms.
The final report of the Resolution Foundation Intergenerational Commission this year has suggested introducing a ‘lifetime receipts tax’. This tax would replace IHT and would be payable on any gifts that an individual receives to the extent that they exceed a ‘lifetime receipts allowance’ of £125,000. The tax rates would be lower than the current 40% IHT rate, but the various reliefs would be restricted. The net effect is forecasted to raise an extra £5 billion in tax, almost equal to the current revenue from IHT.
If you are contemplating pre-Budget gifts, make sure you ask us about your liabilities.
The Financial Conduct Authority does not regulate tax advice.
Levels and bases of taxation and tax reliefs are subject to change and their value depends on individual circumstances.
Tax laws can change.
The contents of this article is for information purposes only and represent the opinion of Pryor Portfolio Management Limited only. No action should be taken on the basis of this article alone. We always recommend you seek more detailed independent financial advice before taking action – feel free to contact us at any time.