Give away your wealth to save mega tax bill: your guide to gifting rules for IHT

Average inheritance tax bills are on the rise as house prices increase in value and tax thresholds are frozen. Rachel Lacey explains how to avoid landing your loved ones with a huge tax bill.

In April alone the government earned £0.6 billion in inheritance tax (IHT), £0.1 billion more than the same period last year.

It continues a trend of rising IHT receipts for HMRC. British families paid a total of £7.1 billion in IHT during the last tax year (2022-23), up from £6.1 billion the previous year.

In 2019-20 – the latest year that figures are available – the average inheritance tax bill was a considerable £216,000, a painful sting for loved ones.

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The reason behind this increase is rising house prices. That, coupled with an inheritance tax threshold that hasn’t risen since 2009 and is frozen until the 2025-26 tax year, means growing numbers are getting stung by IHT – often unexpectedly.

But, if you know where you stand, there are some straightforward ways to avoid landing your loved ones with a huge tax bill when you die.

When is inheritance tax charged?

Currently IHT is charged at a rate of 40% on estates over £325,000.

However, it’s a bit more complicated than that and many people will actually have a much higher allowance.

For example, if you are passing on your home to family members such as children or grandchildren, that allowance increases by a further £175,000 to £500,000 (so long as your total estate is worth less than £2 million).

Transfers between spouses are also tax-free and any unused allowance can be passed on after the first death.

That means married couples with a family home, can effectively pass on an estate worth £1 million before any IHT will be due.

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Ways to mitigate inheritance tax

Former Chancellor Roy Jenkins famously described inheritance tax as “a voluntary levy paid by those who distrust their heirs more than they like the Inland Revenue”.

From complicated trusts and life assurance policies, to investments in assets that qualify for business property relief (such as AIM stocks) there are plenty of ways to mitigate, or at least reduce, a looming inheritance tax bill.

Pensions are also becoming an increasingly attractive way of sheltering your money from IHT, following the scrapping of the lifetime allowance charge in April this year. This is because death benefits from pensions won’t be considered as part of your estate when you die, meaning they will be paid free of IHT.

But perhaps the easiest, and most straightforward, way of reducing your inheritance tax bill is to start giving your wealth away. This has the added benefit that you get to see your loved ones enjoy their gift, or give them financial support at a time they really need it.

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Gifting rules and allowances

You can’t just give away as much of your wealth as you would like to avoid paying IHT. Gifts are subject to strict rules.

However, there are allowances that enable you to make regular gifts over a period of time, without worrying that they could eventually incur IHT.

• Annual exemption: each tax year you can give away £3,000 IHT-free. This could be one gift to one person or you could spread it across several people. You can also carry forward your allowance from the previous year if you didn’t use it. This means an individual gifting for the first time could give away £6,000 in one go, while a couple could gift as much as £12,000 between them.
• Small gift allowance: you can make as many gifts of £250 as you like, so long as they haven’t already benefited from another gifting allowance.
• Gifts from income: you can also make as many regular gifts from income as you like, so long as they can be made without raiding savings or impacting your standard of living. This could cover – for example – helping younger generations with school fees, paying into Junior ISAs or making rental payments. Gifts like these can make a huge difference to your family and be a great way of gradually reducing the value of your estate.
• Wedding gifts: if you know somebody who is getting married you can give them £1,000 tax-free to mark the occasion. This rises to £2,500 to a grandchild or great-grandchild, or £5,000 for your own children. The money could also be used to help pay for the wedding or the honeymoon. Wedding gifts can be given alongside any other gifting exemption, with the exception of the small gift allowance.

You can make gifts beyond these allowances but they will be subject to the seven-year rule. This means that the gift only becomes totally free of inheritance tax if you live for seven years after it is made.

If you die before seven years have passed, IHT may be payable. However, the rate you pay may be reduced by taper relief, depending on the number of years that have passed between your death and the date the gift was made.

Taper relief on gifts

Can I give my house away?

Many people consider giving their house to their children to avoid paying inheritance tax.

However, for this to be effective, it would have to be an outright gift. This means that you would not be able to live there or benefit from the property in any way. HMRC would describe such transfers as ‘gifts with reservation of benefits’ and, as such, they would not be free of IHT.

Even if you did make an outright gift of your home, it would still be subject to the seven-year rule, meaning you would need to live this long for it to become wholly tax-free.

The same rules would apply to any other assets you might choose to give away. So, for example, you couldn’t give away a piece of art or antique furniture but carry on displaying it in your home.

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Don’t forget the paperwork

Tracking down gifts after you’ve died could give the executors handling your estate a real headache. It’s a massive help if you are able to keep comprehensive records of all the gifts you make.

This should include:

• The value of the gift
• The date it was made
• The name of the recipient
• Details of where the money came from
• Details of any allowances or exemptions you have used

Alternatively, you can report gifts as soon as you make them to HMRC using the Schedule IHT 403 form. If you don’t complete this while you are still alive, your executors will need to complete it during the probate process.

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Get advice

Although giving away your wealth is straightforward, the caveat is that you mustn’t give away money you might need in later life, for example to pay for care. In some cases, other more complicated arrangements – where you don’t lose access to your wealth – might make more sense.

For this reason it’s often a good idea to get advice from an independent financial adviser who specialises in estate planning. The Society of Later Life Advisers has a tool to help you find specialists in your area.