Gift under a Christmas tree
Partner Content by Octopus Investments

Gifting is only part of an estate planning strategy

The traditional method of gifting to plan for inheritance tax is permanent and irreversible, but it’s not the only way
By Jessica Franks, Head of Tax, Octopus Investments

If you’ve helped a client plan for inheritance tax, as many of you will have, then you’ll recognise the typical reluctance from clients to give away wealth in their lifetime. 

Despite the amount of assets and potential tax liability involved, many clients feel uncomfortable exploring the opportunities to reduce inheritance tax because they fear the only way to do so is by giving away assets.

Gifting is a traditional solution to passing down wealth, and often the only option a client will be familiar with. However, the complex rules around gifting can be an immediate put off for clients. And those clients who want to retain control of their money as they enter their twilight years can be put off estate planning altogether. 

As an adviser, that is not where your conversation has to end. For the right client, there is a blended approach that can offer a way forward.

The basics of gifting

Any individual with an estate value above the nil-rate band of £325,000 will be subject to 40% inheritance tax. In some cases, the residence nil-rate band of £175,000, which offers a tax-free transition of a personal residence to a child or grandchild, will raise that overall personal allowance to £500,000. 

Beyond this, assets can be given away as a ‘gift’, but there are limitations and pitfalls to be aware of.

Any gifts between spouses or civil partners are free from inheritance tax. For passing wealth to people other than a spouse or civil partner, there is an annual gifting allowance of £3,000, which can be carried over for a year if only partially or fully unused. There is also allowance for wedding-related gifting, limited to £5,000 for children and £2,500 for grandchildren, and gifts to charities, national museums, universities, the National Trust, political parties and some other institutions.

The limits of gifting

As mentioned, some gifts are always tax free, but most are classified as ‘potentially exempt transfers’. These typically become free from inheritance tax once the person making the gift survives for seven years after the gift is made, with a tapering scale of relief covering that gift in excess of the nil rate band if they do not.

The major problem with this for many clients is that gifting is permanent and irreversible. Anyone making gifts loses ownership and control of their wealth as soon as the gift is made.

As nobody can know what the future might hold, and how much money you might need, making a gift can feel like a drastic way of reducing an inheritance tax liability. 

Additionally, seven years can be a long time to be certain a gift has worked as intended, especially if a client is elderly or in poor health. 

The flexible alternative

Fortunately, for some there is a way around this challenge. Investments expected to qualify for Business Property Relief (BPR) offer relief from inheritance tax, and are now an essential tool in many advisers’ armoury.