Making a lifetime gift is a generous and welcome gesture to loved ones. However, when it comes to reporting such gifts to HMRC following a death, there is one area where confusion often arises – the application of taper relief.
The 7 year rule and taper relief
Generally, if you do not survive 7 years after making a gift, its value will still form part of your estate and will need to be reported to HMRC. If the value of the gift or total value of gifts made in the last 7 years exceeds your inheritance tax free allowance (the ‘nil rate band’, which is currently £325,000) then there will be inheritance tax (IHT) to pay on the lifetime gifts.
When families are reporting lifetime gifts, they often come across ‘taper relief’ and believe it is a reduction in the value of the gift to be reported, which it is not.
Taper relief is a reduction in the rate of inheritance tax applied to the lifetime gifts and not a reduction in the value of the gift itself. The longer you survive, the larger the reduction in the rate of tax due on the gifts.
Years between gift and death
Percentage of full rate of tax
Effective rate of IHT on gift
|3 to 4||80%||32%|
|4 to 5||60%||24%|
|5 to 6||40%||16%|
|6 to 7||20%||8%|
|7 or more||0||0|
This is a common misconception which is best illustrated by way of an example.
Case study: Mary’s estate
Mary made a gift of £400,000 in May 2019 to her eldest son, Toby, who was looking to buy his first property.
Mary died in September 2022 and so when her family administer her estate, they will need to take into account the gift which was made to Toby in the last 7 years.
Misconception: Taper relief applies to the value of the gifts
Mary’s family read about taper relief and think that as Mary died within 3-4 years of making the gift that only 80% of the value of the gift is included in the estate.
The incorrect application of taper relief would lead the personal representatives to think that the gift, now totalling £320,000 in the above example, is within Mary’s nil rate band and no inheritance tax is due.
Correct application: Taper relief applies to the rate of IHT
The value of the gift made in the last 7 years of Mary’s life remains to be £400,000 which is in excess of Mary’s nil rate band of £325,000.
The amount chargeable to inheritance tax is £75,000. This does not take into account other allowances which could be claimed and reduce the value of any lifetime gifts subject to IHT.
As the gift was made 3-4 years prior to Mary’s death taper relief is available. Taper relief reduces the amount of IHT payable on a gift, not the value of the gift itself.
As such, the effective rate of tax is reduced to 32% (80% of the usual 40% IHT rate) and Toby would need to pay £24,000 of IHT on the gift he received from his mother.
Ensuring the gift is not a 7 year burden
It is the responsibility of the person who receives the gift to pay the IHT due on it (although the personal representatives may be liable in some circumstances).
It is also worth noting that if Mary had made a number of lifetime gifts in the last 7 years of her life to a number of her children, then the application of IHT will apply to the gifts in order of the date they were given i.e. the oldest gifts will use up the nil rate band first and later gifts in excess of the nil rate band will be subject to IHT.
When making a lifetime gift it is not usually the person’s intention that the gift carries with it a burden of potential IHT. Quite often gifts are made with the intention that they are used to pay a deposit on a house or assist with the cost of grandchildren’s education. As such, the gift is usually spent and so if HMRC come asking later for a lump sum of IHT, the recipient of the gift is unlikely to be able to pay it easily, if at all.
When considering lifetime gifts and the potential exposure to IHT you might wish to consider:
- Confirming who is responsible for paying the IHT due on any lifetime gifts in your Will i.e. your residuary estate or the recipient of the gift;
- Taking out 7 year term insurance to cover the potential IHT liability on a gift.
When making a lifetime gift
It is worth reviewing your estate planning and Will before making a lifetime gift to ensure you understand the IHT implications and can mitigate it where possible.
When administering an estate
Taper relief can be a valuable reduction in the amount of IHT charged on a lifetime gift but it must be applied correctly and considered where any IHT burden lies.
Annika Bell is an Associate in the Private Client team in Kingston. She advises on a wide breadth of private client work including Wills, estate administration, powers of attorney, lifetime gift advice and inheritance tax planning, post death estate planning and deeds of variation, court of protection and trusts.