personal finance

Inheritance Tax UK: How gift giving rules could apply to your IHT bill

Inheritance Tax is currently set at 40 percent and is applicable for the value of estates above the standard £325,000 threshold. The tax is not well-liked within the UK, with many people expressing their disapproval, and a cross-party parliamentary group currently in the process of discussing how the tax can be adapted. In the same vein, many people look to legally avoid the tax through a variety of methods, with perhaps the most popular being gift giving.

By gift giving, people seek to decrease the value of their estate by handing items of monetary worth – including property – to their loved ones, thus reducing the tax bill.

However, in an effort which appears to seek to increase fairness in the system, HMRC has specific rules regarding the giving of gifts which are worth noting.

There is usually no Inheritance Tax to pay on small gifts such as birthday or Christmas presents – known as ‘exempted gifts’.

This allows Britons to give away £3,000 worth of gifts each tax year under the ‘annual exemption’ policy.

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Each tax year, people can also give away wedding gifts of up to £1,000 per person, payments to help with living costs, and gifts to charities and political parties.

There is also no Inheritance Tax to pay on gifts between spouses or civil partners, as long as they live in the UK permanently.

However, there is a seven year rule applicable to many gifts, which is dependent on how many years a gift is given before a person’s death.

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Gifts given less than three years between giving and death are taxed at 40 percent, reducing to 32 percent between three to four years.

Between four to five years, tax is set at 24 percent, and between five to six years, 16 percent.

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This reduces again to eight percent for gifts given between six to seven years before death, and the tax bill is wiped out for gifts given seven years or more before a person dies.

This is known as a ‘taper relief’ scale, as gifts are not counted towards the value of an estate after seven years. 

However, it is also important to bear in mind the 14 year shadow rule for IHT.

When a gift is first made it is known as a Potentially Exempt Transfer (PET) – as it could be exempt from tax providing you live for a further seven years or more.

This switches to a Chargeable Lifetime Transfer (CLT) if a person dies within the following seven years – subject to tax.

CLTs do not necessarily mean there is IHT to pay, but they do have to be assessed by HMRC, so it is important to keep a record of what gifts have been given. 

The 14 year shadow rule only becomes an issue if the total of CLT and PETs made in the previous seven years exceeds the Inheritance Tax threshold an individual has .

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PETs are considered to be ‘failed’ if an individual dies within seven years of making the gift and this becomes a CLT.

The 14 year rule, then, applies when there are CLTs in the seven years before a PET ‘fails’. 

HMRC evaluates all estates, even if they are below the threshold, to check valuations.

Funds must be paid to HMRC if applicable, and this is usually done by the person who is the executor of a will. 


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