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Six tips on using gifts to reduce inheritance tax

Inheritance Tax and Gifts

Inheritance Tax bills can be quite steep, but thankfully there are many ways in which your tax bill can be reduced.  As the saying goes, it’s better to give than to receive. But did you know that along with the pleasure of seeing your loved ones enjoy your gift you can also reduce inheritance tax at the same time? Giving gifts is a simple way to reduce the value of your estate when you die, and to reduce the size of your overall Inheritance Tax bill.  However, to avoid potential pitfalls and make the most out of it, you’ll want to understand the rules first. Read this article to find out more.

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1. Know what’s defined as a gift

So what counts as a gift for inheritance tax purposes? Simply put, it can be anything that’s part of your estate. Property, cars, cash, investments, jewellery – even collections of stamps, wine, coins or sports memorabilia can be liable to inheritance tax. One thing to remember is normally you can’t add conditions to your gifts. For example, if the gift is a car, you can’t continue to drive it. If the gift is a home, you can’t continue to live in it rent-free or inheritance tax may apply.

2. Begin giving early

As soon as you give a gift, an inheritance tax clock starts ticking. Usually, seven years must pass before your gift is 100% inheritance taxfree. If you die before this time lapses, the person you’ve given the gift to may owe inheritance tax. It’s one reason for giving gifts early. When you’re younger you’re more likely to live seven years from the time the gift was given. Making gifts earlier also increases your chance of getting to experience the pleasure that comes from seeing those you love enjoy what you’ve given – and to thank you for it.

3. Use annual gift exemptions

Each of us has an annual allowance that allows gifts up to £3,000 free of inheritance tax each year. If this full amount isn’t taken one year, it carries over into the next year. This means that if you don’t give the full amount one year, you can give £6,000 the following year. However, this allowance can only be carried over for one year. Everyone can also give as many gifts as they like up to £250 per person. These gifts are currently inheritance tax exempt – there’s no seven year clock ticking. It’s important to note that you cannot combine this small gift allowance with any other gift allowance for the same person. This means that you can’t give someone a £3,000 gift and then another £250 small gift. Donations to charities, including gifts to political parties, can also reduce inheritance tax.

4. There are special rules for weddings

Weddings are gift-giving occasions. But, before handing over a gift to the happy couple, consider inheritance tax. You may not be aware, but a wedding gift offers a chance to reduce inheritance tax. The amount that you can give inheritance tax free depends on your relationship to the couple, the timing and amount of your gift. Generally, the more closely you’re related to the couple, the more you can give. So if one of your children marry, you can give up to £5,000. If a grandchild or great-grandchild marries, this reduces to £2,500 or less. And if you’re giving to a relative or friend this drops to £1,000. But don’t wait until after the honeymoon to give your gift. It must be given before, not after the wedding to avoid attracting inheritance tax.

5. Gift Assets into a Trust

Trusts are often overlooked as a way to manage your estate when you pass away; it can be possible to keep an element of control over what happens to your assets and how they can be used.  The tax treatment of trusts means they can also be useful for reducing the amount of inheritance tax that will be paid; it is possible to use trusts to move assets out of your estate for inheritance tax purposes.  Once an asset is placed into a trust it is no longer deemed part of the estate.  Contributions can be a one off or a regular occurrence and there are no limits on how much can be placed into a trust.

However, the use of trusts can be complicated.  There are a number of types of trusts and not all of them allow the assets to avoid paying inheritance tax in this way (and some trusts have their own additional tax charges).  There is also the “7 year rule”; an asset must have been gifted into a trust at least 7 years prior to have no liability for inheritance tax (with between 4 and 7 years being a sliding scale).

Selecting the right trust at the right time can be very valuable, although it does come with risks.  The area of trusts can be complex and to get the best out of them (and avoid expensive mistakes!) it’s recommended to speak to an experienced Financial Planner.

6. Document, document

It’s very important that you track the details of any gifts that you’ve made to reduce inheritance tax. You’ll need to record to whom each gift was given, the gift they were given, the date the gift was given and the value of the gift. 
It’s also helpful to keep evidence of the gift, for example, using a bank statement to evidence a gift of money. This will make it easier to establish if there is any inheritance tax due on your gifts.

Gifts for Inheritance Tax– tips to keep in mind:

• Usually 7 years must pass before a gift is inheritance tax free.
• Give up to £3,000 each year.
• As many gifts up to £250 each year (per person).
• Wedding gift allowances may apply.

Final Thoughts

In summary there are a few ways in which gifts can be used to reduce inheritance tax:

  1. Know what’s defined as a gift
  2. Begin gifting early
  3. Use annual gift exemptions
  4. Make use of special rules for weddings
  5. Gift assets into a trust
  6. Document!

Reducing Inheritance Tax, one gift at a time

There are many things we would like to pass on to our loved ones when we pass away, but the one thing we don’t want to leave them is a hefty Inheritance Tax bill.  After all, Inheritance Tax is often called ‘Britain’s most hated tax’, and it isn’t  hard to see why. Hopefully this article has shown that making gifts during your lifetime is one way that you can reduce your inheritance tax bill.  There are other ways which usually form part of a wider financial plan.

If you’re unsure of what to do next then we recommend to get in touch with a financial adviser who will be able to set up a plan that will aim to reduce or even eliminate inheritance tax.  This could include giving gifts as well as a number of other strategies.