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Inheritance tax a new approach? The impact of death on gifts
It’s a fairly well known principle that, provided you ensure that you retain no benefit in the asset you give away, after seven years the value of the gift washes out of your estate for IHT purposes and the gift has, in effect “worked”. That’s why the technical term for such gifts is “Potentially Exempt Transfers”; at the time of the gift and for seven years thereafter, the Sword of Damocles hangs over it, but eventually it becomes fully exempt.
So what if you do die within seven years? And why does it matter? Well, it’s a sound enough line of reasoning. If I am on my deathbed, the Revenue aren’t going to accept me giving everything away and then my executors claiming I owned nothing when I died, meaning no Inheritance tax bill. That’s why you have to survive long enough for the gift to be exempt. The problem comes when you don’t survive seven years, as the value of the gift (at the time it was made) is dragged back into the reckoning.
Worse still, your historical gifts have first call on the Nil Rate Band for Inheritance Tax when you die. For example, let us suppose Mr Smith, five years before he died, gave away £,100,000. When he dies, his own estate is worth £325,000 (coincidentally, the value of the Nil Rate Band currently in force). Unfortunately, his Nil Rate Band is reduced as follows:-
- Deduct value of gift - £325,000 - £100,000 = £225,000
- Apply balance to Mr Smith’s personal estate - £325,000 - £225,000 = £100,000
- Tax the excess over the balance of the nil rate band at 40%
- Resulting tax bill = £40,000 (£100,000 x 40%)
If the recipient of the gift and the beneficiary of Mr Smith’s estate are one and the same, all well and good, but not if they are different people. And matters get worse if Mr Smith gives away the whole Nil Rate Band as a gift, because now all of his estate is taxable at 40%. And if his gift is more than the Nil Rate Band, then the excess of the gift itself is chargeable to IHT at 40%, albeit that the tax can be reduced by taper relief if it is older than 3 years.
Because of the impact that gifts in the seven years prior to death can have on an estate, it is advisable to keep a record of them (a good idea would be to lodge details with your will) so your executors can accurately report your estate for IHT consequences. Failure to do so can result in penalties being levied, as in the example of a man who not only deliberately concealed an offshore account his father had from the executors of the estate, but also compounded the position by twice ignoring their requests for details of any gifts to him. His father had in fact given him £450,000 as a gift from the account which should have been included as a failed Potentially Exempt Transfer. This failure resulted in penalty charge being levied against the man personally as well as his having to pay the tax due. The fine? £87,000 - 65% of the tax levied! The moral of the tale is that where gifts have been given, full and frank disclosure is the only way to deal with matters.
If Inheritance Tax is a concern to you, or if you are interested in leaving something to charity in your Will, please do get in touch with Alastair Liddiard.
Please note the contents of this blog are given for information only and must not be relied upon. Legal advice should always be sought in relation to specific circumstances.