Inheritance tax is a constant source of interest to those subject to it, and debate abounds as to its appropriateness, though that deserves an article of its own and is outside the scope of this piece.
Famously described by a former Labour party shadow chancellor, Roy Jenkins, as “a voluntary levy paid by those who distrust their heirs more than they dislike the Inland Revenue”, IHT is paid by only 4 per cent of estates.
Jenkins’ aphorism is proved somewhat by the recent news that TV presenter Anne Robinson has reportedly given away a £50mn fortune to her family to mitigate the IHT liability that would otherwise arise on her death.
Following the reporting of Robinson’s gifts, readers with estates worth more than the IHT tax-free threshold of £325,000 (£650,000 for married couples/civil partners, and up to £1mn when taking into account the additional and complex residence nil-rate band [RNRB]) may well be wondering whether they too can mitigate the tax.
Is it as easy to do as simply ‘giving away’ money? What are the risks involved in making such gifts? Are there other methods by which they could reduce their IHT exposure?
To best answer these questions, it is important to understand some of the fundamental principles of IHT and how it is charged.
IHT is extraordinarily technical and complicated, and readers can be forgiven for glazing over when immersing themselves in its details. But the technical nature of the IHT regime, by design, creates both opportunities and traps for taxpayers.
In most cases, IHT is associated with and levied on death.
Broadly, the tax is charged at 40 per cent on the value of an estate over the £325,000 nil rate band, with an additional RNRB if the deceased’s home is passed to direct descendants (children and grandchildren), though only if the deceased’s gross estate is valued at less than £2mn.
If the value of the individual’s estate exceeds £2mn, the RNRB is tapered, and removed entirely for estates worth £2.25mn.
In the case of married couples/civil partners, IHT is generally not payable on the first death provided that the assets pass to the surviving spouse/civil partner, thereby deferring a tax charge and its consequent cash flow disadvantage until the second death.
Technically, IHT is charged on ‘transfers of value’, being any ‘disposition’ which reduces the value of the transferor’s estate – including gifts.
Navigating potentially exempt transfers
Gifts can enable an individual to circumvent IHT if he or she survives each one by seven years, hence they are called potentially exempt transfers (PETs) in an IHT context.
If the transferor dies within three years of making a PET, the full value of that gift is treated for IHT purposes on his/her death as if it was still in the estate and taxed as such.
If the transferor survives the gift by more than three years then the rate of tax is tapered by 20 per cent each year, until after seven years it falls out of charge entirely.
