There’s now only months left before unused defined contribution pensions become subject to inheritance tax (IHT), and people are considering how the change will affect them.
A recent HL survey* showed that 6% of people already had an IHT liability that was likely to be made worse. A further 9% believed that they did not have an IHT issue before but could have one now.
This article isn’t personal advice. Remember, tax rules can change, and benefits depend on circumstances. You can usually access money in a pension from age 55 (rising to 57 in 2028). If you’re not sure whether an action is right for you, ask for advice.
How gifting could help reduce inheritance tax
There are various options you can make use of to try to reduce the value of your estate, making IHT less of an issue.
Just over 1 in 5 said that they planned to spend more to reduce the value of their estate for IHT purposes. But another option is gifting assets to loved ones.
The research showed that 24% of those who thought that they had an IHT liability would take their tax-free cash and gift it away. A further 44% said that they would gift from either income or from other assets.
Gifting can have some real benefits, like getting to see your loved ones benefit from your gift while you’re still alive. It could help get them on the property ladder or pay for university.
You would also see how they handle the money you’ve given them. This could be a real eye opener if, for instance, they fritter it away and it might change how you choose to gift to them in the future. But above all, the important thing is to make sure that you do not give too much away, potentially leaving yourself struggling later.
Inheritance tax gifting rules and allowances explained
Gifts of any value can be made to an individual, and they fall out of your estate for IHT tax purposes after seven years – these are known as Potentially Exempt Transfers.
There‘s also an array of allowances that you can make use of where your gift will fall out of your estate for IHT straight away.
These include:
Annual Exemption worth £3,000.
Small gift allowance – you can give small gifts worth £250 or less to as many people as you want. The caveat is that you can’t give one of these small gifts to someone who has benefited from another IHT exemption.
Marriage gifts – you can make gifts worth £5,000 to a child, £2,500 to a grandchild or great-grandchild, and £1,000 to anyone else – if they’re getting married. The marriage must occur for the gift to be valid.
There is also a rule known as gifting out of excess income that may come in useful. This lets you gift any amount, and it leaves your estate for IHT purposes immediately as long as:
it comes from income, not capital
it’s regular
it does not affect your standard of living
Detailed records are vital in making sure you remain on the right side of the rules, and it can be a good idea to take financial advice.
Could an annuity help with inheritance tax planning?
Another avenue being explored by some taking part in the research included buying an annuity.
Payments from an annuity made after your death that go to a spouse, civil partner or registered charity would not be part of your estate for IHT purposes, nor would income from a joint life annuity.
However, any lump sum death benefits paid out to someone other than a spouse, civil partner or to a registered charity could attract a tax charge, as would a payment arising from an annuity protection option that wasn’t going to a spouse or civil partner.
Making sure your inheritance tax strategy is right for you
Managing an IHT liability is complex.
You don’t know how long you will live, and so you need to make sure you have enough to live on, and your own financial wellbeing should take priority over any gifting.
Giving money away to loved ones can be equally complex and keeping to the rules requires good record keeping. 27% of people said they would seek financial advice about their IHT strategy. And it’s a figure that’s expected to grow more as people get to grips with the potential impact of IHT on their loved ones.
The government’s free Pension Wise service can also help if you’re over 50 and need guidance about your retirement options.
Stay a step ahead
IHT rules are just one of the ways that your finances are changing at the end of this tax year. Our weekly newsletter gives you news, tips and insights on these changes right in your inbox.
*Survey of 2,000 people conducted by Opinium on behalf of Hargreaves Lansdown