Gifting Your House Could Leave Relatives With Even Bigger Tax Bill
Experts are warning people that gifting their property to family members before they die could leave loved ones with an even bigger bill to pay...
More inheritance tax (IHT) is currently being paid than ever before. This year saw £5.2bn go to HMRC, which is an increase of £3.4bn over the last 5 years. A constant rise in property wealth is resulting in more people paying out to the taxman when they pass away.
Many are looking to use the complex IHT rules in an effort to pay less, as there are a number of ways to do this. Gifting property is becoming more common, as relatives turn to giving their properties to family members before they die, to avoid being taxed. However, experts are now warning people that doing this, could leave loved ones with an even bigger bill to pay…
What are the IHT rules?
Under the current IHT rules, any individual is subject to a 40% tax on any assets that fall above the current threshold of £325k. The assets that are subject to IHT include, any property, cash, vehicles, investments and life insurance payouts if applicable.
The “family home allowance”, which is currently being phased in until 2020, is an exemption to this. Individuals passing on property to direct descendants only, will be able to take advantage of the allowance.
For example, couples can use their combined allowances to pass estates worth up to £1m onto their direct descendants. This allowance is worth an additional £125k in the 2018-19 tax year, and will be worth £150k in 2019-20, followed by £175k in 2020-21.
People can reduce the death duties their families will have to pay by reducing the overall value of their estate. They can gift them assets, such as a cash lump sum, but this must be done least seven years before they die in order to be exempt from tax.
What if you pass on property as a gift?
By gifting an entire property, it is possible to substantially reduce the value of your estate, and therefore also reduce the amount of IHT that may be applicable. However, the process of gifting your house to relatives is not quite as tax efficient as many believe it to be.
Certain rules make gifting property not quite as straightforward, such as the “gift with reservation of benefit” (GWROB), which is designed to prevent people giving away assets like property, while still making use of them.
What happens under the GWROB?
Essentially under this rule, a parent couldn’t gift their home to a child and continue to live there at the same time, unless they were prepared to pay the market rate of rent. This rent would then need to be paid for at least seven years from the time the property was gifted, in order to qualify for IHT exemption.
Under the GWROB rules any tax implications could be severe. If a surviving, elderly parent, wanted to give their property away to a relative to reduce the amount of IHT payable on their estate, they could inadvertently leave that relative with more tax to pay.
If the parent continued to live in the house after the gift was made, and they didn’t pay the market rate of rent, then a 40% tax would still be applicable, even if they died more than seven years after the gift was made. Plus, the parent would lose their £125k family home allowance, as the property wouldn’t have passed directly to descendants after their death.
Also, the relative who received the property as a gift, could be liable to pay capital gains tax if they then decided to sell the property, which could of risen since the gift was made. Capital gains tax is applicable on any money made over the annual tax-free allowance, which currently stands at £11,700, at a rate of 18%, or 28% for higher-rate taxpayers.
Are there other ways to reduce IHT?
Without a strong understanding of IHT rules when it comes to gifting properties, many will end up leaving their loved ones hundreds of thousands of pounds worse off. Luckily, there are other, more efficient ways to reduce your IHT bill. Gifting cash lump sums, using tax-efficient investing or putting certain assets into trusts are good examples of this.
Structuring assets in the most tax-efficient way possible is essential for reducing the size of an estate, and in turn decreasing the IHT owed. However, due to the rules in regards to IHT becoming increasingly complex, many often struggle to keep up with the changes to thresholds, and exemptions.
Nevertheless, in order to not be caught out by gifting rules, diligent financial planning is vital to make significant savings.
If you need more information on Inheritance Tax, our experts at Get Probate can provide you with free professional advice.