Risks of gifting in inheritance tax planning

Individuals can have different motivations behind gifting assets – some people wish to make provision for another relative to ensure that they are financially stable, others have a focus on reducing the value of their own estate for inheritance tax purposes, and indeed there can be a combination of factors behind someone’s wish to make gifts.

In the simplest terms, gifting in order to reduce your taxable estate for inheritance tax purposes involves transferring the benefit of that asset to another individual or entity and surviving that gift by seven years. The legal ownership of the asset in question will also need to be transferred, to the person who receives the gift in the case of a straightforward gift, or to the trustees of the trust in the case of a gift into trust.

While someone can create a trust of which they are a beneficiary (a “settlor interested trust”), such trusts are typically inefficient vehicles for reducing inheritance tax, so I will not discuss them here.

What is crucial, in straightforward gifts or in trusts which are not settlor interested, is that the person making the gift surrenders the benefit of the asset. Such a benefit could be the right to occupy a property without paying rent or the right to receive income from a rental property or an investment. There is huge value in taking a comprehensive approach to your assets and liabilities, ensuring that your lifestyle is sustainable without financial recourse to an asset before giving it away. Should such a gift be made without the individual actually giving up the benefit of the asset in question, then the asset may still be treated as part of that individual’s estate upon death. This is known as a “gift with reservation of benefit” and would mean that the asset would still be chargeable for inheritance tax in the individual’s estate, regardless of how long they survived the gift. The well-known seven year rule does not apply here. It is also worth noting that a gift with reservation of benefit may arise even where the deceased initially gave up the asset entirely, but then subsequently moved into the property in question without paying market rent or derived another benefit from the trust asset. It is not only about the behaviour of the individual when the gift was made, but also for any time period while the trust is in existence and the individual is alive.

It is therefore vital that you take professional advice on any steps you may take in hope of reducing your inheritance tax liability by gifting assets, in order to ensure that the gifting is effective for inheritance tax purposes.

• By Celia Gould, Trainee Solicitor