From gifts to pension planning, ten tips to avoid falling into inheritance tax trap

Person looking at finances on notepad and laptop

Inheritance tax can be reduced in a number of ways

Jessica Sheldon

By Jessica Sheldon

Published: 23/08/2023

- 16:05

Updated: 14/11/2023

- 16:14

There are legal and legitimate ways a person can reduce the impact of inheritance tax

An inheritance tax bill is becoming a threat for more and more families amid soaring house prices and the frozen inheritance tax threshold.

While most people won’t be affected by the tax, inheritance tax receipts have been increasing year-on-year – with HMRC collecting more than £7billion in the tax in 2022/23.

The so-called death tax will bear a significant financial burden on families who want to pass their assets onto the next generation, but there are ways people may be able to avoid being caught in the inheritance tax net.

While it’s important people seek independent professional advice for their specific circumstances, Sam Robinson, principal financial advisor at pension advisors Almond Financial, has shared ten top inheritance tax tips.

Person looking at finances with calculator in front of him

The standard inheritance tax threshold is £325,000


1. Thinking about the inheritance tax threshold

The standard inheritance tax threshold is £325,000, with any assets - meaning property, possessions or money – above this threshold subject to the charge.

Mr Robinson said: “IHT can be charged up to 40 per cent on your estate above a tax-free threshold of £325,000 - a significant blow to your financial legacy.

“Rising property prices and the freeze on inheritance tax thresholds until 2027/28 means more families are getting caught in the IHT net than would have if the bands rose with inflation.

“This makes it even more important for families to understand how they could plan to avoid the threshold and the eventuality of IHT.”

2. Writing a will

Writing a will is a vital part of inheritance tax planning, the financial advisor said.

He explained: “If you die without a will, your assets will be shared out by legal default and may be subject to IHT that could otherwise have been avoided.

“If you express your wishes in a will, you can plan to allocate your estate in a way which will reduce IHT and maximise the benefit of your assets to those you are leaving them to.”

3. Considering gifts

People may be able to reduce a potential inheritance tax bill by giving gifts during their lifetime.

Taking advantage of gifting rules could “significantly reduce” an inheritance tax bill, by transferring wealth outside of the taxable estate.

Gifting from normal income is permitted, and people can gift £250 to as many people as they want via the Small Gifts Allowance, provided they've not used another allowance on the same person.

There is also an annual exemption of £3,000 a year, which can go to either one person or be split among several people.

Mr Robinson said: “Tactical treats to loved ones in the form of any of these gifts could reduce your inheritance tax bill or even put you under the taxable threshold.”

4. Giving to charity

Practising philanthropy could also slash an inheritance tax liability.

Mr Robinson explained: “Gifting or leaving money in your will for charities, political parties, the national purpose and housing associations will always be free from inheritance tax.

"In addition, if you leave more than 10 per cent of your taxable estate (10 per cent of the excess over £325,000) to charity in your will, the inheritance tax rate for the rest of your estate will fall from 40 per cent to 36 per cent."

5. Giving to your spouse

People who are married or in a civil partnership can benefit from inheritance tax rules.

Mr Robinson said: “If you are married, 100 per cent of assets gifted between spouses are IHT-free and don't use any of your nil rate bands.

“So, if you leave your entire estate to your spouse in your will, there will be no inheritance tax due and the inheritance will take nothing from the tax-free allowance.

“If a spouse dies and their tax-free allowance of £325,000 has not been used up from gifts to others in their will, then their remaining tax-free allowance can be transferred to the surviving spouse; potentially doubling their allowance so they can pass on up to £650,000 tax-free when they die.”

6. Giving wedding gifts

There is also a wedding gift allowance within inheritance tax rules.

There’s a special exemption from IHT for cash gifts made on or shortly before the date of a wedding (‘gifts in consideration of marriage’),” Mr Robinson said.

“The tax relief on IHT depends on the relationship between the gifter and the giftee:

  • Each parent (including step-parents) can gift up to £5,000 tax-free.
  • Grandparents and great-grandparents can gift up to £2,500.
  • Any other person can gift up to £1,000.”

7. Remembering the seven-year rule

If a person gives away a gift more than seven years before their death, then it won’t be subject to inheritance tax, due to something known as the seven-year rule.

“No tax is due on any gifts you give as long as you live seven years after gifting them unless the gift is part of a trust,” Mr Robinson said.

“If you die within seven years of a gift’s time then IHT may be due, with the help of taper relief.

“Gifting is tricky to get right; gift too early and you could lose the asset and/or income and control, gift too late and you could pay 40 per cent IHT due to the seven-year rule.”

8. Passing on your pension

How can you use a pension pot to reduce inheritance tax? “By not spending it,” Mr Robinson said.

“Pensions usually fall outside of your estate, so are exempt from IHT. You can spend the assets within your estate in retirement instead of your pension, allowing it to be passed on IHT-free; unless you rely on the state pension, which cannot be inherited.

“For example, spending your assets could consist of downsizing or selling your house to rent, using the surplus as your retirement fund instead of your pension; Spend your house, save your pension!”

9. Considering trust planning

Another option people may consider is putting assets in a trust.

“Gifting into trust can be a clever way of removing assets from your estate for inheritance tax purposes,” Mr Robinson said.

“However, trust planning is a complex and tricky area; who you want to leave your assets to will impact the type of trust you use…

Bear trusts are set up for when you know exactly who you are gifting to, who must be someone under the age of 18. If you live for seven years after gifting to this type of trust, the gift will be inheritance tax-free; this is known as a potentially exempt transfer (PET).

“However, if you die within seven years of making a gift into a bear trust, inheritance tax could be due. Also, once the beneficiary is named and the trust is set up, it cannot be amended; so make sure you trust in the responsibility of who you are gifting to.

Discretionary trusts exist for gifting not to a specific person but to a class of people, like your grandchildren. If you live for seven years after gifting to this type of trust, the gift will also be inheritance tax-free.

“Discretionary trusts offer more flexibility than bear trusts but at a cost, as all transfers in will be assessed for IHT on entry, periodically, and on exit. On entry, if the gift exceeds the nil rate band of £325,000 there will be an instant charge on 20 per cent of the balance. Gifts into this type of trust are known as a chargeable lifetime transfer (CLT).

“While they have their benefits, trusts are complex and not necessarily tax efficient annually, as most trusts are taxed at 45 per cent on income and have no allowances.”

10. Planning ahead

The final tip is to seek professional financial advice.

Inheritance tax planning is complex,” Mr Robinson said. “If you’re planning on passing down your hard-earned assets to the next generation, you should seek help from a professional financial advisor who can help you pass down the maximum benefit of your estate."

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