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Inheritance Tax planning – Choose your gift wisely!

A key point in Inheritance Tax planning is developing a suitable gifting strategy. With appropriate planning by making gifts of cash and/or assets, substantial tax savings can be made, however, choosing the right type of gift is crucial. John Rouse, partner in the Lodders Private Client team, explains.

Fundamentally, there are two types of gift – absolute gifts to an individual and gifts into trusts – and the type of trust will depend on how that gift is treated.  However, which type of gift is appropriate will depend on a number of factors and, ultimately, what you are trying to achieve.

When deciding what cash or assets to gift, it is important to remember that it is significant whether they are gifts from capital or from income.

Small gifts and annual allowance

Every individual can make gifts of up to £250 to an individual which are ignored for inheritance tax (IHT) purposes.  In addition, an individual can make gifts of up to £3,000 each year which are not treated as part of your estate for IHT purposes whether or not you survive by 7 years.

Absolute gifts

If you make direct gifts to an individual in excess of the small gift allowance or your annual exemption, those gifts remain part of your estate until you have survived by 7 years.  The recipient will be free to deal with those assets as they choose.  Absolute gifts are most appropriate for:

  • gifts of cash
  • assets without any capital gain
  • where the recipient is financially competent, is not a minor or a vulnerable individual

If you are gifting assets that have grown in value, a gift of those assets can attract capital gains tax (CGT) and can be a major drawback unless they are certain types of business assets or agricultural land.

Gifts into a discretionary trust

Rather than making an absolute gift to an individual, you can make a gift into a discretionary trust.  This type of trust is very useful as the trustees have discretion on how to use the fund and how and when assets are distributed.  In addition, if you own assets with a capital gain, by using a discretionary trust, assets can be transferred without triggering a CGT liability.  Therefore discretionary trusts are very popular for:

  • gifting properties or investments
  • where you want to retain an element of control
  • where you want flexibility when, how and to whom assets and income are distributed
  • holding assets to produce an income to pay grandchildren’s school and university fees

Whilst there is often a perception that trusts can be more complicated and expensive to administer, in practice trusts can be relatively straightforward to run and ideal where flexibility is required.

Gifts of excess income

If you do not spend all your income then you can make gifts of your excess income.  This is a very under used but very useful exemption.  The major benefit of gifts of excess income is that the 7-year survivorship rules do not apply and there is no limit on the value of those gifts.  Provided certain steps are followed, significant tax savings can be generated.

Once you have established whether you have excess income, you can then decide whether the gifts should be absolute gifts or into a discretionary trust.

Click on the diagram for more information about gifts:

Beware the hidden traps

However, there are certain hidden traps that need to be avoided for your gifts to be effective, but provided gifts are structured in the correct manner and certain requirements followed, considerable tax savings can be made.

For more guidance on your inheritance tax planning and gifting strategies, please contact John Rouse on 01789 206167 or via email.

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Get in touch

For more guidance on your inheritance tax planning and gifting strategies, please contact John Rouse on 01789 206167 or via email.