TTF Tackles the Money Monster under your bed: Inheritance tax, Gifts and the 7-Year Rule

"I’ve always prided myself on being organised and responsible, especially when it comes to finances. But as I’ve gotten older, I’ve started to worry more about how my affairs will impact my family after I’m gone. In particular, inheritance tax which has been baffling me—the rules around gifting and the ‘7 Year Rule.’

I’ve always believed in helping out my children and grandchildren while I’m still around to see them benefit from it. Over the years, I’ve given some sizable gifts—helped my granddaughter with her first house, sent some money to my son for his business, that sort of thing. I never thought much of it. But recently, I’ve been hearing more and more about inheritance tax and how gifts I’ve made might not be as straightforward as I thought.

Apparently, if I pass away within seven years of making a large gift, it could still be taxed! This has left me worried. What if my family ends up with a hefty tax bill they weren’t expecting? I’ve tried reading up on it, but the information is so complicated. I’m starting to feel a bit lost in it all.

I know there’s something called the 7-Year Rule, but it seems confusing. I want to understand it better so I can make sure the gifts I’ve given—or might give in the future—don’t end up creating financial problems for my loved ones. If anyone could explain it in plain English, I’d be very grateful.

I believe the idea is that if I survive for seven years after giving a gift, it won’t be taxed, but if I pass away within that period, it might be. And then there’s something called “taper relief,” which apparently reduces the tax if I make it a few years past the gift, but I’m not entirely sure how that works either.

It’s all leaving me feeling uncertain. I just want peace of mind, knowing that I can continue to help my family without it backfiring in the future. I’ve worked hard my whole life, and the last thing I want is for my generosity to cause any difficulties after I’m gone."

We completely understand how inheritance tax (IHT) and the rules surrounding gifts can seem complicated, especially when you’re committed to avoiding unexpected burdens for your family. It’s wonderful that you’ve always been mindful of supporting your loved ones, and it’s natural to want to ensure that continues without financial strain.

First, let’s break down the ‘7-Year Rule’ in a way that hopefully brings you peace of mind:

The 7-Year Rule Explained

• Any gifts you make over your lifetime are considered Potentially Exempt Transfers (PETs) for inheritance tax purposes.

• If you survive for seven years after making a gift, that gift becomes fully exempt from inheritance tax. In simple terms, it means your beneficiaries won’t have to pay any inheritance tax on the amount you gifted.

What Happens if You Pass Away Within 7 Years?

• If you pass away within seven years of making the gift, that gift may be subject to inheritance tax, but only if the total value of your estate exceeds the inheritance tax threshold (currently £325,000 for most people).

• Taper Relief: If you pass away between 3 and 7 years after the gift, the tax due on that gift may be reduced. The relief reduces the tax in a sliding scale based on how many years have passed since the gift was made:

o 3-4 years: 80% of the tax payable

o 4-5 years: 60% of the tax payable

o 5-6 years: 40% of the tax payable

o 6-7 years: 20% of the tax payable

Exemptions You Can Rely On

• Annual Gift Exemption: You can give away up to £3,000 per tax year without it being included in your estate for IHT purposes. If you haven’t used this allowance in the previous year, you can carry it forward, meaning you could give up to £6,000 tax-free.

• Small Gifts: You can make unlimited small gifts of up to £250 to any number of people in a tax year, as long as it’s not the same person benefiting from your £3,000 annual exemption.

• Gifts on Marriage/Civil Partnership: You can also make tax-free gifts for weddings or civil partnerships up to £5,000 for your children, £2,500 for grandchildren, and £1,000 for others.

Planning for Peace of Mind

• To make sure your generosity benefits your family as intended, it’s worth taking stock of any larger gifts you’ve made in recent years and consider how the 7-Year Rule might apply.

• You can also keep a record of gifts, which will help your executors and beneficiaries manage any potential tax liabilities after your passing.

Next Steps

• If you’re considering making any more large gifts, it may be a good idea to plan strategically—perhaps spreading out gifts over several years or ensuring that any larger gifts are made with the 7-Year Rule in mind.

• Professional advice might be beneficial in your case. The Tax Faculty can help you with inheritance tax planning and ensure that your estate is structured in a way that minimises tax exposure for your loved ones.

Capital Gains Tax Expertise: The Tax Faculty LLP Managing Partner Charles Tateson Named UK Capital Gains Tax Advisor of the Year 2023

The Finance Monthly Taxation Awards recognises the achievements of tax professionals from around the globe.

Winning such an award is no small feat. It is a reflection of hard work, extensive knowledge, and an ability to navigate the intricacies of the UK tax system.

Read more about Charles and the award here.

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