Tax planning in matters of inheritance: the rules of donation


In previous articles, we have explained how to calculate the value of your estate, including the value of your property. Now you can get a better idea of ​​the value of your estate and whether you are likely to face an inheritance tax bill or not.

Either way, the good news is that there are all kinds of easy and perfectly legal ways to plan ahead to minimize an inheritance tax bill, or wipe it out altogether.

What can you offer now?

The easiest way is to start disposing of assets in order to reduce the size of your estate. For estate tax purposes, these gifts actually fall into two categories: those that are immediately tax-exempt and those that do not formally leave your estate until after a period of time, usually seven years.

The first category gives you a lot of leeway. Each year you can make as many gifts worth £ 250 or less as you want. You can also make larger donations, up to a total of £ 3,000 in a fiscal year; any part of this allowance not used can be carried over to the following tax year.

All donations to charities and political parties are also considered tax-free gifts. In addition, parents can give children who marry gifts of up to £ 5,000 without affecting their other allowances; grandparents and others receive smaller allowances of this type, valued at £ 2,500 and £ 1,000 respectively.

Another option here is to donate your excess income. If you can show that you have more money than you need to maintain your lifestyle and that you are willing to commit to making regular donations as part of your normal expenses, you can pass as many this excess as you want without inheritance tax. implications.

The Seven Year Rule

Gifts that do not fall under any of these allowances and exemptions are called “potentially exempt transfers” (PET). They will still fall out of your estate for inheritance tax purposes, but only if you live at least seven years after creating them.

If you die earlier than that, the value of the PETs still in circulation will be added to your estate on a declining scale. Donations made for less than three years are fully recognized; those made between three and four years ago benefit from a 20% discount; increasing to 40% for donations made four to five years ago; and so on over every two year period until you reach 100% after seven years.

Keep careful records

If you are in any doubt as to how donations might affect your heirs’ estate tax status, you should seek professional advice, especially since the fine print can get quite technical.

Even if you don’t get such help, be sure to keep careful track of the donations you have made. These will ensure that whoever takes care of your affairs after your death can do so easily – and that your heirs benefit fully from your planning.

An important issue to watch out for is that if you continue to enjoy a benefit from a property you have donated, the donation will not count for inheritance tax purposes. An obvious example is your house. If you donate it in order to get its value from your domain but continue to live there without paying rent to the new owner, the property will still be considered part of your domain.

Watch out for trusts

Also watch out for trusts. One popular estate tax planning strategy is to donate your assets to a trust; these assets are then owned and controlled by your appointed trustees who are legally empowered to manage the assets on behalf of your chosen beneficiaries.

However, while the assets in trust are not counted for inheritance tax purposes after your death, you may have to pay a 20% fee when you donate for the first time – and additional withdrawals from 6% every ten years thereafter. Always take professional legal advice on trust structures.

Finally, while you can’t entirely beat an inheritance tax bill, you can make sure of that, with a life insurance policy that pays off the expected value of the bill for your heirs. As long as the policy is written in trust – insurers can usually help – there will be no inheritance tax payable on this money.

Insurance policy premiums count as a gift if you pay them yourself, but they can usually be covered by one of your tax exemptions. Just be aware that life insurance can get expensive if you’re older or in poor health.

This is the third in our series on inheritance tax. For the full report and more, subscribe to MoneyWeek Magazine and get your first six issues for free – sign up here today.


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