Aside from gifts of the annual personal allowance of £3,000, minor gifts and those to charities and spouses/registered civil partners the general rule is that for a gift to fall entirely out of your estate for the purposes of calculating inheritance tax you need to survive 7 years from the date of the gift.
However, there is a way of making substantial gifts which are immediately tax free. There is an exemption from inheritance tax, the criteria for which are that the gifts must be:
- Part of the normal expenditure of the person making the gift, ‘the donor’
- Made out of income (taking one year with another) and
- Leave the donor with sufficient income to maintain his or her usual standard of living.
- Normal expenditure
Payments can be normal despite being of differing amounts. To ensure that expenditure is regarded as normal the donor should make a declaration of intent, evidence of a commitment, to give away surplus income.
- Income (taking one year with another)
The intention behind this criterion is to provide for fluctuations of the donor’s income from year to year but where overall they have enough income to make normal gifts and meet their standard of living on an ongoing basis. In these cases you need to look at income and expenditure over a number of years to ensure that the income test is satisfied.
- Sufficient income to maintain his or her usual standard of living
This is evidenced by accurate record keeping on an annual basis for each tax year. These records will form the basis of the claim for the exemption by the donor’s personal representatives on their death, assuming that the gifts were made in the 7 years before the date of death.
- The exemption in practice
Gifts of differing amounts can be made at irregular intervals directly to beneficiaries or into trust/to a third party for their benefit.
If, on average, a couple made annual gifts of £10,000 over a 20 year period, the inheritance tax saving would be £80,000. This is on top of annual personal allowances and other minor gifts.