Gifts without tears

In theory it is better to give than to receive, but it tends to be the giver who has to worry about any tax implications. You may want to be generous, but the possibility of capital gains tax (CGT) and inheritance tax (IHT) complications can be off-putting. So here are five suggestions for helping the next generation tax efficiently.

Be generous early

Most gifts are subject to the ‘seven year rule’, so provided you survive for seven years from the date of the gift, it is inheritance tax (IHT) free. If, however, you’re unlucky enough to die within seven years of making the gift, it will reduce the IHT nil rate band that is available for your estate and, if the gift is worth more than the nil rate band, then the recipient would have an IHT liability on the excess.

It isn’t all bad news, however, even if you die during the seven-year window. There’s a discount on the tax charge after three years, which increases the longer you survive. So, if you survive for over six years from the date of the gift, the IHT rate is 8% rather than 40%. Also, the gifted funds can grow outside your estate so that the increase in value is IHT free.

Use the exemptions

The annual gift exemption of £3,000 may seem miserly, but if a married couple were to use it every year, it can make a worthwhile dent in their joint IHT liability.

Less well known is that if you have more income than you need to support your lifestyle, you can make gifts out of surplus income without limit and without concerns over survival for seven years. You need to be able to show an intention to gift regularly, so this works well for regular payments like meeting school fees or paying life insurance premiums.

Take care with property gifts

If you want to transfer a property to the next generation, you’ll need to think about tax on any gains that have arisen during your ownership of it. Even if you’re giving the property away for nothing, the HMRC treats the transfer as a market value disposal, so if your gain is over the £12,300 annual CGT allowance, there will be CGT to pay.

Gifting your family home should usually be avoided if you want to continue to live in the property, due to both IHT and CGT complications. However, shared ownership of a holiday home that is used by your wider family can work.

Stamp duty land tax shouldn’t be an issue on gifts, but if you take over the liability for a mortgage, then that is ‘consideration’ and is subject to duty.

Pass on the family business

If you run a trading business or company, its value may be protected from IHT, so you could pass it to the next generation IHT free on death. Then again, you may wish to step back and, for business assets including shares in your trading company, there’s an exception to the rule that gifts are market value disposals. Provided that both donor and donee agree, an election can be made to avoid an immediate tax charge by transferring the base cost to the next owner. If the next generation then sells the asset, they will take on the liability for the CGT.

Use trusts for school fees

Education costs can be a considerable drain on a family’s resources, but older generations can help by establishing a tax-efficient structure to assist the process. Each grandparent could transfer £325,000 into a trust for the benefit of grandchildren without an IHT charge. If the grandparent survives for seven years then their estate will qualify for a new nil rate band of £325,000; they might even want to replenish the trust with further funds at that stage.

Income can be distributed to pay for school or university fees and would count as income of the child concerned, even if paid directly to the school by the trustees. If the child has no other income, then the personal allowance and basic rate band should be available to shelter the income.

In summary, for wealthy families who feel a sense of responsibility to manage succession for future generations, there are still opportunities for tax efficiency. Wealth transfers can deliver help for the next generation when needed, but understanding the tax implications will help to secure the best deal for everyone.

Important information

Tax laws will change and tax relief will vary depending on individual circumstances.