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capital gains tax (cgt)  •  Personal tax  •  Tax Planning

Effective IHT planning – Making gifts outside your estate

By RJP LLP on 24 February 2022

Inheritance tax (IHT) planning is one of the most emotive areas of our work with clients. Very often IHT is seen as a form of double taxation, since the individual will have already paid either income tax or capital gains tax on their assets, which then suffer IHT on death.

Gifting assets during lifetime is usually regarded as one of the easiest and cheapest ways to reduce the value of your estate, but gifts do reduce the available lifetime exemption if made within 7 years of death.

If you have more income than you need to live off, there is another valuable option, termed ‘normal expenditure out of income’, which does not fall within the 7 year criteria, meaning qualifying gifts fall immediately outside your estate.

Normal expenditure out of income is, as the name suggests, expenditure that is normal for the taxpayer rather than something exceptional. It is defined by HMRC as habitual, standard, regular, typical etc, such as giving 10% of your surplus income to your children each year or paying school fees regularly.

If it is ‘normal’ to be paying for your extended family to have a luxury holiday each year and you can afford to make these payments without being adversely financially impacted, this could qualify. Paying your son’s loft extension as a one off would be harder to argue as normal expenditure – unless you gave them an annual allowance for maintaining their properties and did so every year, making it a routine payment.

When considering normal expenditure out of income for IHT planning, you will need to discuss what expenditure could be deemed appropriate with your tax advisor and maintain very detailed records showing exactly what was gifted and when.

If you were considering making a larger gift, e.g. the loft extension payment, this could qualify if it could be deemed as the first in a series of gifts. This would involve your tax advisor helping to provide strong evidence that this is the case.

There is no upper limit on the value of the gifts, but the transferor must be left with sufficient income to maintain their usual standard of living, and it is important to keep detailed records of this. The gifts must be made from income after taxes and expenses (and not savings which is classed as either accumulated income or capital). This is where the distinction between gifts out of income  and lifetime gifts comes into play.

There is the potential to argue that accumulated income is not capital for the purposes of making these gifts, for example income that had been left to accumulate for a couple of years, but it would require specialist advice.

Clearly normal expenditure out of income could be a very useful way to actively reduce the value of your estate. Perhaps the most important factor to consider if you want to engage in this form of IHT planning is to ask yourself the following questions. What are your current sources of income? How long is this level of income likely to be sustained? Will you be able to keep making ongoing gifts from this income without it adversely impacting on your standard of living? Can you demonstrate the gifts are regular in nature?

To discuss these issues and the broader topic of inheritance tax planning in more detail, please contact us via partners@rjp.co.uk

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60 Day Deadline for CGT Returns and Tax Payments

If you sell a property and incur capital gains tax on the transaction, you will need to file a tax return and also pay any tax that is due within 60 days of completion, or penalties will arise. Need help with your property taxes? Talk to us.

Inheritance tax (IHT) planning is one of the most emotive areas of our work with clients. Very often IHT is seen as a form of double taxation, since the individual will have already paid either income tax or capital gains tax on their assets, which then suffer IHT on death.

Gifting assets during lifetime is usually regarded as one of the easiest and cheapest ways to reduce the value of your estate, but gifts do reduce the available lifetime exemption if made within 7 years of death.

If you have more income than you need to live off, there is another valuable option, termed ‘normal expenditure out of income’, which does not fall within the 7 year criteria, meaning qualifying gifts fall immediately outside your estate.

Normal expenditure out of income is, as the name suggests, expenditure that is normal for the taxpayer rather than something exceptional. It is defined by HMRC as habitual, standard, regular, typical etc, such as giving 10% of your surplus income to your children each year or paying school fees regularly.

If it is ‘normal’ to be paying for your extended family to have a luxury holiday each year and you can afford to make these payments without being adversely financially impacted, this could qualify. Paying your son’s loft extension as a one off would be harder to argue as normal expenditure – unless you gave them an annual allowance for maintaining their properties and did so every year, making it a routine payment.

When considering normal expenditure out of income for IHT planning, you will need to discuss what expenditure could be deemed appropriate with your tax advisor and maintain very detailed records showing exactly what was gifted and when.

If you were considering making a larger gift, e.g. the loft extension payment, this could qualify if it could be deemed as the first in a series of gifts. This would involve your tax advisor helping to provide strong evidence that this is the case.

There is no upper limit on the value of the gifts, but the transferor must be left with sufficient income to maintain their usual standard of living, and it is important to keep detailed records of this. The gifts must be made from income after taxes and expenses (and not savings which is classed as either accumulated income or capital). This is where the distinction between gifts out of income  and lifetime gifts comes into play.

There is the potential to argue that accumulated income is not capital for the purposes of making these gifts, for example income that had been left to accumulate for a couple of years, but it would require specialist advice.

Clearly normal expenditure out of income could be a very useful way to actively reduce the value of your estate. Perhaps the most important factor to consider if you want to engage in this form of IHT planning is to ask yourself the following questions. What are your current sources of income? How long is this level of income likely to be sustained? Will you be able to keep making ongoing gifts from this income without it adversely impacting on your standard of living? Can you demonstrate the gifts are regular in nature?

To discuss these issues and the broader topic of inheritance tax planning in more detail, please contact us via partners@rjp.co.uk