By Joshua Nutton, Trainee Solicitor
Question: How can I make cash gifts to family or trusts which don’t have to be of a fixed or capped amount and which are immediately free from inheritance tax (IHT) without a seven-year run-off?
Answer: When those gifts are made as part of your normal expenditure out of income. This is a specific, uncapped exemption under the IHT rules.
What qualifies as a gift made from excess income?
1. The gift must form part of your normal expenditure, and so a pattern of gifting should be intended and ideally established, but the pattern in terms of the timing, frequency, amounts and recipients of gifts need not be consistent; and
2. taking one year with another, the gift must be out of income; and
3. the gift must be out of excess income, such that you are left with sufficient income following the gifts to maintain your usual standard of living.
What is income?
This is construed by HMRC as net income after the payment of income tax, and income will be assessed in accordance with normal accountancy rules. Income can also be carried forward, generally by a year.
This is covered: earned income from employment, pensions, property rents, interest and dividends.
This is not: the sale proceeds of assets (such as shareholdings, works of art and properties) and withdrawals from life assurance investment bonds.
Your executors need to show HMRC full details of gross income, tax liabilities and routine expenditure as evidence that gifts have been made from excess income; you also can’t be seen to have resorted to capital sources to fund living expenses or boost income.
Therefore, it is vital to keep notes and records for at least seven years. We also recommend a statement of intent is signed, and kept updated, referencing the specific exemption under the IHT rules. We have seen even a single gift qualify in these circumstances.
This is a valuable and often overlooked exemption under the IHT rules.
If you have surplus income accumulating year to year, and you are not relying on capital to fund your lifestyle, then making gifts out of that surplus can be done immediately free of tax.
If your planning and record keeping is correctly handled, then your family or trust recipients will have peace of mind not having to worry about the risk of a tax liability arising in the following seven years.