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Inheritance tax and gifting money: the gift that keeps on giving

Ostentatious wealth is no longer appealing in times of pandemic and many people are looking into their families’ tax arrangements and how to pass on their assets within the family.

How to help out your family with tax-free gifts

The easiest way to help children and other family members is via regular gifts out of income. This is efficient as inheritance tax (IHT) is not charged on gifts made from a person’s ‘excess income’, which is the extra income not required to maintain the person’s usual standard of living. There may be difficulties in proving that the gifts came out of the ‘excess income’ and the advice is to keep detailed records of your regular incomings and outgoings.

Parents can also pay school fees for the grandchildren on behalf of their adult children and these payments can be IHT exempt if they are regular and paid from the excess income. The gifts are also protected if the child divorces or becomes bankrupt.

If the school fees are paid from savings – i.e. not from excess income – the donor will have to survive the gift by seven years to reduce their IHT liability.

How much money is eligible for a tax-free gift?

Based on current rules, it is possible for the individuals to gift assets or cash up to £3,000 in a tax year which will not be included in their estate for IHT purposes at the date of their death. Gifts worth more than £3,000 are called potentially exempt transfers and may be subject to IHT if the donor dies within seven years from the date of the gift.

Parents can gift up to £5,000 to their children as a wedding gift and grandparents £2,500. Unlimited gifts of up to £250 are also allowed to as many people as you like.

Using a family trust to gift wealth

Using family trusts is an alternative to pass wealth down to younger generations, and there is a limit of £325,000 per individual – or £650,000 per couple – which can be ringfenced into a trust without triggering an immediate IHT charge. However, the taxation of trusts is complex and specialist tax advice must be sought before creating new trusts.

How much money should you give as a gift?

Finally, donors must be careful not to give away too much. Their income may have been reduced by the drop in dividend yields or pension funds reduced by the recent market downturn. Parents need to reassess what they need for themselves and not deprive themselves of assets. A word of warning is to only gift what you can afford to lose forever as if you make a gift and take some benefit back – i.e. gift of a property to children but the parent is expecting some income back – then for IHT purposes, this will be treated as if the parent had never made the gift and can lead to tax penalties.

I am an optimist. One of the good things that has come out of this pandemic is probably that people have spent more time together and have focussed their minds on their families’ circumstances, valuable personal relationships, wishing to look after each other. We have seen endless mortality stats and excess deaths, which has probably created the perfect opportunity to revisit issues like transfer of wealth and discuss some fundamental questions.

Our Probate Trusts and Wills team at Mayo Wynne Baxter is here to discuss probate and inheritance tax advice and if you have any questions, please do not hesitate to contact us here.

Catalina Lowe