I want to make gifts to my loved ones in my lifetime, can I do this tax free?

With the 2024 wedding season approaching, thoughts will be turning to gifts for the happy couple. Cash is often the gift of choice, but these gifts are inside the scope of UK taxation and consideration should be given to the potential Inheritance Tax (IHT) implications. Making financial gifts can also be effective for IHT planning purposes, to gift money while you’re still alive to be able to be see your loved ones be more financially stable rather than to pass it on through your will when you die. Understanding how lifetime gifts are taxed is important and are set out below

Tax-efficient gifts

There are some gifts that are completely exempt from IHT, such as gifts between spouses or civil partners, and gifts to charities and political parties.

Other gifts may also be exempt, but only if they are within your gifting allowances. These include:

  • Gifts of up to £3,000 each tax year – this is known as your ‘annual exemption’ (see below)
  • Gifts for weddings or civil partnerships – each tax year you can give up to £5,000 to a child, £2,500 to a grandchild or great-grandchild, or £1,000 to any other person
  • Gifts from regular income
  • Small gifts of up to £250 per person per tax year (so long as you haven’t used up another allowance on the same person).

Gifts doesn’t have to just be cash, but also includes household and personal items (such as jewellery and antiques), a property or land.

Your annual exemption

You can make gifts which total £3,000 each tax year without this counting towards the value of your estate. You could gift the whole £3,000 to one person or split it between several different people.

Any unused annual exemption can be carried forward by one tax year. For example, if you only used £1,000 of your annual exemption in the last tax year, you could carry forward £2,000 to the current tax year.

Potentially exempt transfers and the seven-year rule

Should you wish to consider making a larger financial gift to someone – for a property deposit perhaps, this gift is known as a ‘potentially exempt transfer’, and you must survive for at least seven years for it to be tax free.

Potentially exempt transfers made within the seven years before you die reduce your inheritance nil rate band of £325,000 – this is the amount you can pass on to your beneficiaries free of tax. The nil-rate band is currently £325,000. For example, if you gave your child £300,000 and died within seven years, you would only be able to pass on £25,000 of your estate tax free after your death.

Furthermore, if you gave away more than £325,000 in the seven years before you died, you would not only eradicate your nil-rate band, but anyone who received a gift above this threshold would have to pay IHT. The rate of tax would depend on the number of years between the date of the gift and your death:

Years between gift and death Rate of tax
0 to 3 years 40%
3 to 4 years 32%
4 to 5 years 24%
5 to 6 years 16%
6 to 7 years 8%
7 or more years 0%

Source: HMRC

As you can see, is it important to keep a record of any gifts you make, including what you gave, who you gave it to, the value and the date you made it. This will help the executor of your estate work out what gifts you made in the seven years before you died as the executor is responsible for reporting these gifts to HMRC.

Gifts out of income

Gifts out of income is a valuable and often overlooked IHT exemption, which applies to normal expenditure out of income. A transfer is exempt if it is made as part of your normal expenditure. The transfer must be made of surplus income, but not capital. Taken together with all the transfers that form part of your normal expenditure, you must be left with sufficient income to maintain your usual standard of living.

Gifts, which are normal expenditure out of income, are immediately exempt and there is no seven-year clock. These rules means that you can make regular gifts out of your surplus income and provided that the gifts do not impact your standard of living, then they will be outside of your estate for IHT purposes.

Next steps

A carefully considered lifetime gifting plan could enable you to make a real difference to the recipient and your future IHT position however, the rules are complex, and it is important to take specialist advice.

Rachael Ball FCCA
LHP Accountants

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01834 844743 | Info@lhp.co.uk