Why Gifting from your income can reduce your estates IHT problem

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Ok, so for the majority of the country we accept that not everyone has “more income than they need”. However we are seeing this situation more often than you might expect, particularly in cases where our “older generation” still remains on the payroll of the family company, or indeed as a partner in the family business while at the same time still having income from their own investment portfolio and pension.

This dilemma is that if your excess income is retained it adds to your eventual IHT problem, being either taxable on death or the subject of a gift of capital during your lifetime which, as a potentially exempt transfer, needs the donor (YOU) to survive for the full 7 years after the gift is made before it falls out of your estate.

This is often overlooked and that if you had decided to make regular gifts of some or all of that surplus income, those gifts would be completely exempt from IHT, the 7 year rule would not apply to those gifts. Also the gifts out of income rule takes priority over any other exemptions, such as the £3,000 annual exemption, which would remain available to use for gifts out of your capital.

This is a very extremely powerful tax saving tool for those who are able to take advantage of it. As well as there being no requirement for you to survive for 7 years after each gift if the exemption applies, in the event that for some reason your gift exceeded the amount of surplus income available, it is only that excess that would be subject to the 7 year rule to become exempt – not the entire gift.

Additionally there is, in theory no limit so you can successfully take many tens of thousands a year out of your IHT bill.

In order for you to meet the exemption the gifts must meet 3 requirements:

Be part of you normal expenditure of the transferor
Be made out of your income
Leave sufficient income for the transferor to retain your usual standard of living.

Points 2 & 3 are essentially arithmetic tests. Meeting point 1 requires some evidence and is most easily met where there is evidence of a past regularity of the gift – i.e. in each of the ten years prior to death, the individual had been gifting away a proportion of their excess income. So the sooner you start the process, the more likely you are to be able to establish yourself in such a position.

However, Any gifts you made over a short period can still qualify if there is evidence that there was intention to continue making the gifts – such as instructions to Solicitors / Accountants or letters passing to the recipients stating that the gifts are part of your intention to make such gifts in future years.

This is very little used but the exemption available for making regular gifts from income should at least be considered by anyone faced with the possibility of having ongoing income of more than they are likely to require in future years, whether that be a few hundred pounds a year or a few thousand pounds a year or in some cases much larger sums.

It’s always worth looking at all your options when doing Estate Planning and the key thing is all about Timing, Timing, Timing. Don’t leave it till its to late to do anything, sort early and make the most of it.

you can find more at KandCoEstateplanning.com or contact us to get your Essex Estate Planning consultation booked contact@keily.legal