How do gifts affect inheritance taxes?
Death is never a pleasant topic to discuss but thinking ahead can help to navigate some of the financial complications that can arise when you or a loved one passes away. This includes navigating the rules and regulations surrounding inheritance tax (IHT) and understanding specifically, how gifts affect inheritance tax.
Inheritance tax is a type of tax charged against the property and assets inherited from the estate of someone who has passed away. You can also be taxed on gifts that you have received from a donee who has passed away. It is the heir's responsibility to pay the sum, which can be up to 40% of the deceased's estate - but how do gifts affect inheritance taxes?
Figuring out which gifts are taxable, and which are exempt from Inheritance Tax can be difficult, especially if you're dealing with the loss of a spouse, friend or family member. That's why enlisting the services of a local accountancy firm is always highly recommended during this time. However, to make the process easier, here's our introductory guide to how gifts affect inheritance tax.
What is an estate?
First, let's discuss what is included in someone's estate. Typically, it includes the value of their property (or properties) and any savings they've accumulated during their lifetime. It also includes assets, such as their car. It's worth noting that the value of someone's estate is calculated once debts and funeral costs have been taken away.
The inheritance tax owed by the heirs of the deceased is calculated once the value of their estate has been determined. Since 2010, the £325,000 nil-rate band has allowed people to avoid paying IHT on estates up to this value. If your estate exceeds this threshold, your heirs will be taxed at 40% of the difference.
What counts as a gift?
When it comes to inheritance tax, gifts can usually be split into three categories: money, assets and property. If they are gifted in the seven years before someone passes away, they are often taxable at a rate of 40%. For example, if your grandmother buys you a house three years before she passes away, you will need to pay inheritance tax on the value of the property.
If you bought property or assets from the deceased but they were sold to you at a lower price than their rated value, they may also count as taxable gifts. For example, if you bought a property from a family member for less than its market rate, the difference in value could be taxable when they die.
It's important to note that gifts are potentially exempt transfers (PET) before they become taxable. If they're exchanged more than seven years before the donee passes away, they will be exempt from inheritance tax. However, if the donee passes away within seven years of gifting money, property or possessions, the gifts then become chargeable transfers.
What doesn't count as a gift?
Usually, smaller presents shared between friends and family members are exempt from inheritance tax. For example, you won't be taxed on the birthday presents you received from someone in the seven years before they passed away. As a general rule, this pertains to gifts bought from the deceased's normal income or those which cost less than £250.
Wedding gifts can also be exempt from inheritance tax, although it depends on the value of the gift. Wedding gifts may be added to an estate for inheritance tax purposes if they were made after the wedding or the wedding in question didn't go ahead as planned.
When are gifts exempt from inheritance taxes?
There are also some circumstances where gifts are exempt from inheritance tax. If monetary gifts, property or assets are exchanged between spouses or civil partners, they are usually exempt from inheritance tax. However, this relies on the spouse or civil partner residing in the UK full time. These tax rules don't apply to unmarried couples.
You are also eligible to give £3000 worth of tax-exempt gifts per annum. This is known as your annual exemption. Money and possessions are included within your annual exemption, as long as they don't exceed the value of £3000 combined. Any unused annual exemption can be carried forward to the following tax year, but only once.
Why you should contact an account for help with inheritance tax calculations
Understanding how gits affect inheritance tax can be challenging. This introductory guide discusses some of the most important rules to be aware of, but we recommend working with a Chartered Accountant to take the stress away and ensure you're paying the correct amount of tax.
Working with Chartered Accountants can also help you plan ahead to minimise your estate's liability to inheritance tax. With advance planning, you can often avoid inheritance tax being levied on gifts and prevent the creation of a capital gains tax liability on tax-exempt gifts.
If you're looking for friendly and highly skilled chartered accounts in Hampshire, then you needn't look further than Keith Graham. We can provide you with honest, up-to-date and accurate financial advice on future tax planning and are well-equipped to answer any questions you may have about inheritance tax and how gifts affect inheritance taxes.
To learn more about inheritance tax and gifting or our general accountancy services, don't hesitate to contact us today.