Tapering IHT on gifts

Deathbed gifting

The inheritance tax (IHT) rules are complicated and have been constructed to encourage particular behaviours, such as regular gifting or investing in business property. They are also designed to prevent certain outcomes. For example, you can’t avoid IHT by giving everything away on your deathbed. This is where the seven-year rule comes in. If the gift isn’t exempt from IHT under another provision, it will be a potentially exempt transfer (PET).

PETs last seven years

You must survive at least seven years from the date of the gift to escape IHT completely.

Example. Phil cashes in his pension and gives his daughter £30,000 on 3 May 2026. The gift is exempt from IHT providing Phil survives past 3 May 2033.

The trouble is, of course, that we cannot accurately predict the date of our demise seven years in advance. If it ever becomes possible then no doubt the IHT rules will evolve to counteract any tax advantage.

Relief for failed PETs

If you do not make it to the seven-year finish line, the PET fails and the gift becomes chargeable to IHT. There is indeed a possibility of a reduction in IHT if you survive more than three years, in the form of taper relief. Taper relief reduces the rate of tax as follows:

 

Years survived	Reduction in IHT
Between three and four	20%
Between four and five	40%
Between five and six	60%
Between six and seven	80%
Seven or more	100% exempt

 

Here’s the catch

The likelihood of taper relief applying is rather remote. Taper relief reduces the rate of tax charged. If the nil rate bands exceed the value of the gift then there is no tax due and therefore, no taper relief.

You may be thinking this is good news. No tax is better than a reduced rate of tax, right? Not in this case because if the gift is using up a portion of the nil rate band, more of the remaining estate is exposed to IHT.

Example. Phil from the previous example dies on 15 May 2029, with an estate worth £500,000. His estate is entitled to the full nil rate and residence nil rate bands, totalling £500,000. The gift to his daughter uses the nil rate band in priority and as no tax is due on the gift, taper relief is not available, despite the fact Phil survived more than three years. This leaves £30,000 of his estate subject to IHT at 40%, costing £12,000.

In essence, you would have to be very generous and gift more than your available nil rate and residence nil rate bands (up to £500,000) and survive more than three but less than seven years for your estate to benefit from taper relief.

You can still take steps to manage a potential IHT liability on a large gift by taking out term life assurance for a period of seven years from the date of the gift.