As a wealth manager, IFA, accountant, will writer or solicitor you’ll most likely be used to seeing clients coming to you with their concerns about Inheritance Taxes (IHT). These are valid concerns, of course, given that the part of an estate that exceeds the IHT threshold can be taxed at up to a not insignificant 40%.

Inheritance tax planning is a complicated space, but one of the more common strategies to reduce IHT exposure is to give away some of the estate to beneficiaries at an earlier stage. In this article, we look at the pros and cons of gifting compared to leaving the entire estate to transfer before death.

Potential benefits of gifting early

Reducing estate taxes
Currently, no IHT is charged on the first £325,000 of an individual’s estate or £650,000 for a married couple or civil partnership. However, with the ongoing growth in house prices, it is increasingly common for families to find themselves occupying homes that are very valuable, pushing the total value of their estate into taxable territory.

Where a property is being left to say children or grandchildren this threshold can currently increase up to £475,000 for an individual or £950,000 for a couple.

Giving away some wealth before death can reduce inheritance tax exposure, but the maximum savings are only realised if your client gifts money at least seven years before they pass away. If an individual passes away within seven years of gifting and the total of all gifts exceeds £325,000 then the recipients of the gifts will be charged IHT on the excess over the threshold. However it is worth noting this can be reduced as IHT “Taper Relief” may apply in these circumstances.

There is also the £3,000 annual exemption for gifts, which are not taxed, and there are further allowances for small gifts and wedding gifts, up to individual limits or even the ability to make normal gifts out of income where it doesn’t impact on the individual’s standard of living.

Of course all of these allowances, reliefs and thresholds are subject to change and therefore it is important to review and amend any recommendations based on the IHT laws in place at that particular time.

Other benefits to an early gift

Early gifts can make a very big difference in a beneficiary’s life, paying for career-defining education or indeed lifting the burden of debt. The standout example is a gift that helps the recipient get on to the property ladder, a real pain point for many young people.

A gift given with this purpose can ensure that a child gets on with making capital repayments on a mortgage, instead of disheartening monthly rental payments. This gift can also provide the security of home ownership for a child who has been struggling with the temporary nature of tenancies.

Clearly, early planning that involves gifting can have a significant impact on tax exposure or a beneficiary’s current financial situation. But what are the potential drawbacks?

Gifting early - the cons
Life is unpredictable and advising a client to give some of their estate away long before their death can have unintended consequences. It is worth bearing the following points in mind when talking about an early gift:
  • It can be difficult to share gifts equally. Clients may find it harder than expected to divide gifts up equally. It can create a difficult family situation, particularly where gifts will make a big difference for a specific child. Your client’s sentiments about the way they wanted to give away their wealth may also change over time.
  • Your client may live longer or face care costs. Gifting early can have tax advantages, but your client must understand that they should remain aware of the costs they may incur in later life. It can be very difficult to reclaim a gift once it is made.
  • Tax laws can change. One noted example is the recent, steadily increasing allowance for homes, where in 2020 the IHT threshold will eventually reach £1 million for a couple where they are looking to leave their home to their children or grandchildren subject to the overall estate being worth less than £2 million. Also, note that gifts given to children may get caught up in estate taxes applied to the child’s estate. In other words, real tax savings may be less than expected.
Financing early gifts
Whilst some clients may have a large savings pot they can gift, it’s also likely that many clients are cash poor but asset rich, holding a large amount of wealth in their homes. Where that is the case you could recommend an equity release plan to your client, as equity released from a home is not taxed as income and if gifted early enough the sum released may not be taxable under IHT.

At Key Partnerships we don’t provide tax planning advice, but we work with a range of financial, tax and legal advisers who want to help their clients realise the financial potential in their home through equity release.  We will search the whole of the market to find an equity release plan to suit your client’s needs and you can be involved in the process as much or as little as you like.

It is impossible to predict how long your clients will live which makes estate tax planning difficult, however if clients have a large amount of their finances tied up in their home and want to gift to help their loved ones, equity release could be an option to explore.

Let us know what you think are the greatest issues clients face when it comes to gifting an inheritance? You can read more key insights into property wealth, IHT and equity release in our news hub