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Last updated: 25 Aug 2021
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Approaching retirement? Here’s how to reduce your Inheritance Tax bill

You may be thinking more about estate planning in the wake of the COVID-19 pandemic. And in particular, planning to mitigate the Inheritance Tax (IHT) payable on death if you’re approaching retirement.

It’s never too early to plan for your retirement. Especially when getting the tax right enables you to keep more of what you earn and hand more of it to the next generation when the time comes. 

Fortunately, there’re a host of options available to reduce the IHT on your estate. The most effective are generally those involving gifts during your lifetime, which means giving over rights to the asset and the income at the point of gift. Here’re some of options available to you, explained.

About the author

Richard Pott

+44 (0)20 7556 1295
pottr@buzzacott.co.uk

It’s never too early to plan for your retirement. Especially when getting the tax right enables you to keep more of what you earn and hand more of it to the next generation when the time comes. 

Fortunately, there’re a host of options available to reduce the IHT on your estate. The most effective are generally those involving gifts during your lifetime, which means giving over rights to the asset and the income at the point of gift. Here’re some of options available to you, explained.

Gifts exempt from Inheritance Tax

Gifts exempt from Inheritance Tax

There are specific exemptions that allow some gifts to be treated as exempt from IHT from the date of gift which you could be taking advantage of.

The most commonly known is the annual exemption of £3,000 for each individual. If you haven’t used this allowance in the prior year, you can bring this forward to the current year only, giving you a maximum of £6,000 for the year. Any gifts covered by this in a tax year are automatically exempt from IHT.

In addition to this, there are exemptions for:

  • Gifts on marriage of up to £5,000 to your own child, £2,500 to your grandchild or great grandchild, or £1,000 to any other individual. 
  • Gifts of up to £250 to an individual in any year (not to be combined with the £3,000 general exemption above).
  • Payments to help with the living costs of an elderly relative or a child under the age of 18.
  • Gifts to charities and political parties - click here to read our insight on charitable bequests.

Alongside the above, but potentially the most valuable exemption, is that for gifts out of excess income. You’ve likely heard of the seven-year rule where gifts are subject to IHT at a rate of up to 40% if the transferor dies within seven years. Making gifts can be treated as gifts out of excess income is a way to ensure gifts are exempt from IHT, irrespective of how long the donor survives. Click here for more information

Lifetime gifts

Lifetime gifts

Outright gifts that you make during your lifetime, rather than upon death, will only escape IHT fully if you survive the gift by seven years. Until then, they are considered a Potentially Exempt Transfer (PET). If you don’t survive the gift by seven years, the PET becomes chargeable, and is added to the value of your estate for IHT. Therefore if you are planning to make such lifetime gifts, it’s better to think about this sooner rather than later. After the seven years, such gifts would not need to be included on the Inheritance tax return.

A couple of caveats to lifetime gifts

A couple of caveats to lifetime gifts

Something you should be aware of are gifts that HMRC consider to be a gift with a reservation of benefit. This would be the case where the legal ownership is changed, but you continue to use the asset as if it were still in your name as before. A typical example would be if you made the transfer of your family home, but continued to occupy the property without paying a market rent - you have made the gift, but retain the benefits of ownership of the property. 

There are ways to overcome this, one would be to pay a market rent for your occupation, another may be to live alongside your child in the house and transfer just half of the property.  Where HMRC consider there to be a reservation of benefit, the asset will fall back into your estate for IHT purposes, regardless of how long the gift is survived by. Learn more about lifetime gifts here.

Another issue to be aware of when giving assets away in your lifetime is the potential for the pre-owned assets tax (POAT) to be applied. This can apply where the donor gives away an asset, but subsequently benefits from the asset given away. 

It will not apply where the asset remains in the donor’s estate where a reservation of benefit exists. This may be the case where the donor provides funds for the purchase of a property that they later reside in. The POAT rules impose an income tax charge annually on the value of the benefit enjoyed by the donor. In terms of a property, the charge would be based on the annual rental value.

Looking to retain some of your assets?

Looking to retain some of your assets?

There are other planning options available that do not require assets to be given up fully during your lifetime. 

Business Property Relief (BPR)

Investing in assets that qualify for BPR, provides relief from IHT on the transfer of relevant business assets at a rate of 50% or 100%. The 50% rate applies to land, buildings or machinery owned by and used in a business the deceased had control over, or those held in a trust the business has the right to benefit from. It also applies to shares giving 50% control in a listed company. The 100% rate applies to an interest in a qualifying business and shares in an unlisted trading company. 

Discounted Gift Trust (DGT)

Using a DGT allows you to put a lump sum into a trust for your beneficiaries, while retaining the right to regular payments. A DGT may therefore be useful if you require the ability to still benefit from the income, but are keen to remove assets from your estate. The transfer would need to be survived by seven years to escape IHT, and the discounted value transferred will also need to be under your available nil rate band to avoid a lifetime IHT charge.

How to ensure you plan effectively for your circumstances

How to ensure you plan effectively for your circumstances

It’s important to ensure you don’t allow your own standard of living to be compromised in retirement. Our Private Client and Financial Planning teams can work together to arrive at a solution that not only provides options to minimise the IHT payable on your death, but also considers your future financial needs. Our Financial Planning team use sophisticated cashflow forecasting software to assess the impact of any actions on your future income. And our experienced Private Client team advise on the most tax efficient way you can prepare for your beneficiaries’ inheritance.

IHT is one area that is under constant review and consultation with HMRC. Although there have not been many changes to the rules in recent years, it’s important to keep any pre-existing advice under regular review.

Speak to an expert
Speak to an expert

If you’re considering any of the above, or if you have any other queries about financial planning or personal tax considerations at your stage of life, fill out the form below and one of our experts will be in touch to help. As experienced financial planners and personal tax advisers, we can provide advice and guidance tailored to your specific circumstances. 

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