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Many people want to give gifts to their family during their lifetime instead of waiting to leave money on their death.
This could be for a variety of reasons but commonly it might be to help children or grandchildren onto the property ladder or help with university costs. However, it’s important to understand the inheritance tax implications of giving away money or other assets, or ‘gifting’, as it’s often called.
Introduction to inheritance tax
Inheritance tax is payable when someone dies and their estate (this is broadly everything they own such as property, savings and possessions minus any debts) is worth more than £325,000. The standard rate of inheritance tax is 40% and this is payable on the amount left after any allowances have been taken off.
However, there is normally no inheritance tax to pay if the person who died left everything to their husband, wife or civil partner or a charity. There’s more information on inheritance tax in our article on How does inheritance tax work?.
What is a gift?
A gift is often money, but it can be property, jewellery, antiques, stocks and shares and so on. If you sell something to a family member for a lower price than it’s worth, then the saving that has been made is also a gift. For example, if you sell a house worth £400,000 to a grandchild for £250,000 then the £150,000 difference is a gift.
Inheritance tax on gifts
If you give gifts to family members during your lifetime then there is no inheritance tax to be paid on it immediately but there might be inheritance tax due in the future. It depends on who you’ve given the gift to, how much the gift was worth and when the gift was given.
Inheritance tax – the seven- year rule
If you live for seven years or more after you give a gift (unless it is part of a trust*), then no inheritance tax will be due on your death. If you die within three years of giving a gift, then the full 40% inheritance tax rate is applied to the gift. If you die between three and seven years, then something called taper relief applies. This means that the longer you live after you’ve made the gift, the less inheritance tax there will be to pay. The rate of inheritance tax that applies is set by a sliding scale.
For deaths within:
- 6 to 7 years of the gift = 8% inheritance tax is due
- 5 to 6 years of the gift = 16% inheritance tax is due
- 4 to 5 years of the gift = 24% inheritance tax is due
- 3 to 4 years of the gift = 32% inheritance tax is due
For example, let’s look at the example of Marco, who gave £100,000 to each of his four grandchildren in March 2019. In March 2023 he gives them an additional £50,000 each. He dies in April 2026. No inheritance tax is due on the £400,000 given in 2019 as it is over seven years since the gifts were given. However, the £200,000 is within the last four years and that means inheritance tax at a rate of 32%, rather than the standard rate of 40%, will be due on those gifts if Marco’s estate is larger than £325,000.
If a gift is given and it is within seven years of death and over £325,000 then the person who receives the gift has to pay the inheritance tax due.
Exemptions to inheritance tax
You can give gifts every year without inheritance tax ever being due. These are called exemptions.
The annual exemption
One of the most common is the annual exemption and this means that you can gift £3,000 every tax year (6 April to 5 April) and it won’t become part of your estate if you die. It can be to one person or split between more than one person. If you don’t use any of this in one tax year then you can add it to the next tax year and have up to £6,000 to give away but you can only carry forward it for one tax year.
Other exemptions
You can also make unlimited small gifts of less than £250 to as many people as you want. However, you can’t use the annual exemption and the small gift exemption for the same person.
Gifts of up to £5,000 can be made to help with a child’s wedding, or £2,500 if you are a grandparent and £1,000 for any other relative or friend of a couple getting married or having a civil partnership.
There is another very valuable exemption. It’s called the “normal expenditure out of income” exemption. Ignore the jargon as it is useful to understand how it works.
In theory you can give away as much as you like using the ‘normal expenditure out of income’ exemption. But there are three conditions:
- Anything you give away must be from income which might be salary or income from a pension but can’t be from capital. Examples of capital would be an ISA, an investment bond or tax-free cash from a pension.
- Your gift(s) must be regularly given which might be monthly or annually (for example, for a birthday or Christmas present); and
- Money you give away can’t reduce your standard of living.
For example, it has become very common for grandparents to pay into ISAs or pensions for their children or grandchildren. You might have pension income of £3,000 a month but only need £1,500 a month. You could set up a pension or an ISA for your three grandchildren for £1,000 a month (between them).
Record keeping
Keeping a record of any gifts made will be helpful. It means that it’s easy for your executors to deal with your estate on death. You can find more information about drawing up a will and the role of executors in our guide called How to write a will.
*If you do want to put money or investments into a trust during your lifetime then you should take legal and financial advice.
