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Getting to grips with gifts in inheritance tax planning

Getting to grips with gifts in inheritance tax planning


Date published

Inheritance tax (IHT) planning is part of the regular discussions we have with almost all our clients. Essentially, we work together with them to make sure as much of their wealth as possible gets passed onto their families instead of to the taxman. 

There are lots of ways to reduce IHT and lower the tax bill for your loved ones. And they’re worth looking at because as it stands, IHT comes in at a whopping 40% of the value of your estate (not including pensions) above the nil rate threshold of £325,000. (Couples can combine their allowances and there are certain rules about passing property on to direct descendants but for the purpose of this blog we’re keeping it simple.)

Methods to reduce IHT

Our clients will know one of our favourite approaches to reducing IHT bills is for you to spend your money! The lower the value of your estate, the lower the tax liability will be. But don’t rush out to buy a new Maserati just yet as the car itself would remain in the estate. Think of multiple Caribbean holidays each year instead!

Investing on behalf of children and grandchildren – in pensions and JISAs particularly – is another method to achieve IHT savings. These investments will then come under the wider heading of gifts which is the main thing we wanted to look at here.

As well as investing for your family, you can also make outright cash payments. Some of these are immediately exempt from IHT – regular gifts from taxable income, wedding gifts up to certain thresholds and annual payments of £3,000 (in total) to anyone you choose – but others become exempt only after seven years.

Here’s where it gets complicated…

This seven years rule is something that often leads to confusion. Most people are aware that non-exempt gifts remain in the estate for seven years, meaning that the donor must live for seven years after making the gift to avoid any IHT being applied. However, many mistakenly think that the taxable value of these gifts tapers over that period.

This is wide of the mark on two separate counts. Firstly, what’s known as taper relief only actually kicks in at all in the seven-year period if the cumulative value of gifts made during that time is above the £325,000 nil rate threshold. Which, in most cases, they won’t be. Secondly, rather than the taxable value of the gift itself tapering, it’s actually the level of tax applied to the whole amount. So, in the first three years, a gift is liable to the full 40% of IHT. Each year after that until the limit of seven is reached, sees a 20% decrease in the IHT liability.

Gifts are still a great way to reduce your IHT liability, but it’s important to have a clear picture of the conditions in place to make sure you’re taking the best advantage of the available possibilities. Which is what we always have in mind when having IHT planning conversations with our clients!