When a person dies, if their estate totals more than £325,000 a portion of this money has to pay inheritance tax. The 'estate' is comprised of the total valuation of the deceased's property, possessions and money.
In our introduction article 'Avoiding Inheritance Tax', we hinted that some loopholes exist along the lines of gift giving which will allow you to eradicate or reduce the amount of tax due. To complicate things some gifts are considered tax free, and others 'might be' tax free depending on certain stipulations. Here we will detail a breakdown of each...
- Gifts between civil partners, or married couples who are both living in the UK - Whilst both in the UK, all gifts are tax-free. However if one party lives abroad, the tax-free amount only extends up to £55,000
- UK registered charities, museums, educational institutions, National Trust (and others) – basically any non-profit organisation including political party donations
- Gifts to individuals (not businesses), assuming it is seven years or more before your death
- 'Normal Expenditure' – You can continue to give gifts as part of your normal expenditure. A measure for this is whether it reduces your standard of living, and where the money comes from (e.g. your current account)
- Marriage Gifts – Each parent of the couple are allowed to give £5,000 tax-free. Grandparents and distant relatives are allowed to gift £2,500. All other friends and associates are allowed to give £1,000 tax-free
- Small Personal Gifts – In the case of personal gifts for birthdays, Christmas and other such occasions a tax free amount of £250 is permitted. Anything over is supposed to be declared as taxable income
- Maintenance Gifts – Money given in regards to maintenance (child care, training, education, home-help/carers etc.) are all tax-free
- Annual Exemption – Each tax year you are allowed to give away up to £3,000 in gifts (alongside any of the exceptions mentioned above). Any allowance not used, can be carried across to the next tax year – but for only one year at a time.
Potentially Exempt Transfers (PETs)
Most gifts which are not exempt will be classified as 'potentially exempt transfers' (PETs), when made to an individual or certain types of trust. If you live for seven years or more after the gift has been given, it's not classed as inheritance and therefore no tax is due.
If you do die within this period, then the PET is reassessed and added to any other taxable amounts in your estate. Assuming that the valuation of the estates exceeds the maximum threshold; the amount of tax the heir will have to pay on the PET will be reduced based on a sliding scale:
Years between gift and death
Reduction in tax charged
If your tax-free inheritance allowance has been exceeded by the total value of any PETS, chargeable gifts and other facets of your estate, inheritance tax will be due. The current threshold is set at £325,000 and is due to be revised in 2017. A tax rate of 40% is applied at a flat rate to anything above this amount, although the rate can be reduced to 36% when 10% or more of the estate is left to charity.