Gifting Property

What is Inheritance Tax?

Inheritance Tax (IHT) is a tax levied at a rate of 40% on the estate of an individual who has passed away. It applies to the value of any property and assets exceeding the nil rate band threshold of £325,000. This threshold can be transferred to a spouse or civil partner upon death, effectively doubling the nil rate band to £650,000. In addition to the standard nil rate band, there is a Residence Nil Rate Band (RNRB), which offers an additional allowance of £175,000 when passing on a family home to direct descendants. This means that when combined with the standard nil rate band, an individual can potentially benefit from up to £500,000 in IHT relief. However, if the estate’s value exceeds £2 million, the nil rate band is reduced by £1 for every £2 over that limit.

Strategies for Mitigating Inheritance Tax

Gifting Property of Main Residence: One effective strategy for reducing potential IHT liability is to gift property, particularly the main residence, to children or other beneficiaries. This can be accomplished through a Deed of Gift, which legally transfers ownership of the property.

The IHT liability on the gifted property diminishes over time, following the seven-year rule: the tax due on the property decreases each year and is eliminated entirely after seven years. However, the donor must not continue to reside in or benefit from the property unless they pay the recipient rent at the market rate to maintain the IHT exemption or shares the property with the other owner.

If the donor passes away within three to seven years of the gift, IHT may still apply but will be subject to tapered relief, which reduces the tax burden based on the number of years since the gift was made.

Gifting Property That Is Not Your Main Residence: When it comes to gifting properties that are not the main residence, such as buy-to-let properties or vacation homes, the situation differs. In this case, Capital Gains Tax (CGT) becomes applicable, as Private Residence Relief (PPR) does not apply. For higher rate taxpayers, the CGT rate is currently set at 24%.

Given the current political climate, there is speculation that CGT rates may increase in the upcoming Autumn Budget. Prime Minister Keir Starmer has characterized these potential changes as “painful,” prompting individuals to consider transferring property to their children as soon as possible to avoid both IHT and potentially higher CGT rates.

The calculation of CGT is based on the difference between the property’s value at the time of purchase and its value at the time of gifting. Thus, early action may help mitigate both tax liabilities significantly.