Incredibly, research conducted by HMRC revealed that only 45% of people making gifts were aware of the potential Inheritance Tax (IHT) implications. Of those interviewed, one eighth had given a gift in the last two years, with 13% having given £1,000 or more, or multiple gifts of at least £250 totalling £3,000 or more.

Overall, knowledge of IHT rules and exemptions among people who did make gifts was relatively low. And, even those who did have some knowledge didn’t necessarily pay attention to them!

In fact, over the past decade, the amount paid in IHT has more than doubled. Figures from the Office for Budget Responsibility (OBR) showed it rose from £2.4 billion in 2009/10 to £5.2 billion in 2017/18 and around one in 20 estates were liable.

Naturally, we don’t want you to get caught out. So, here’s everything you need to know.

A reminder how IHT works

The current IHT rate is 40%. You will normally pay no IHT if:

• The total value of your estate is below the Nil Rate Band (NRB) of £325,000
• You leave your estate to your spouse or civil partner
• You leave your estate to an exempt beneficiary; for example, a charity

Your Nil Rate Band (fixed at £325,000 until 2021) may be increased if you’re widowed or you’re a surviving civil partner. Here, any unused NRB can be transferred to the surviving partner when the first person dies. This has the effect of potentially doubling the amount of NRB available up to £650,000. This extra transferable element is known as Transferable Nil Rate Band (TNRB).

In addition, the Residence Nil Rate Band (RNRB) was introduced on top of your NRB and TNRB. To benefit from this additional allowance, you must pass your home (or a share of it) to your children or grandchildren (this includes step-children, adopted children and foster children).

The RNRB is currently £150,000 (tax year 2019/20) and will rise to £175,000 in tax year 2020/21.

However, if your total estate is valued at more than £2 million, the Residence Nil-Rate Band (RNRB) is tapered away by £1 for every £2 above £2 million. This means that when the RNRB reaches £175,000 in 2020/21, you’ll not benefit from this additional allowance if your estate is worth more than £2.35 million.

As it stands, it means that you can potentially pass a total Nil Rate Band of £475,000 to your spouse or civil partner, meaning their threshold could be as much as £950,000 on death.

The three gifting rules

1. A gift of any value is exempt from IHT as long as you live for seven years after. If you die during that time, the value of gifts would be included in your estate.
2. Regardless of the timescale, during your lifetime you can gift up to £3,000 a year which is immediately exempt from IHT. Known as the ‘annual exemption’, unused allowance can roll over to the next tax year, but no further.
3. Making ‘gifts out of income’ is another exemption, but to qualify the gift must form part of your normal expenditure, be made out of income and cannot reduce your standard of living. It’s important to keep documentation of income and expenditure as proof.

Other ways to mitigate IHT include:

• Having a valid and up-to-date will
• Using trusts to pass ownership of assets and cash
• Maximising pension contributions, as pensions are often exempt of IHT
• Use Alternative Investment Market (AIM) investments, which qualify for Business Relief and IHT exemption if you hold the investment for two years
• Make charitable donations – if you donate 10% of your estate you qualify for a reduced IHT rate of 36%
• Insure against the likely liability if it’s not possible to completely mitigate

The best thing anyone can do when IHT planning is to engage an experienced, well-qualified financial adviser. We can guide you through every step of the financial planning process. This will ensure that the gifting you make won’t be caught out by unnecessary Inheritance Tax.