Why giving your home away won’t cut your inheritance tax bill

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by Harry Brennan 19 August 2018

Gifting your house could mean you leave your family with a bigger tax bill than if you had done nothing CREDIT: A RICHARD ALLEN

HMRC got more money from Inheritance Tax (IHT) than ever before – £5.2 billion in 2017-18. Increasing property prices mean that this figure is only going to increase.

There are a number of ways of reducing the amount you might have to pay, but the rules are complex and it’s easy to make an error which could result in you paying more tax, not less!

When you die, £325,000 of your estate is safe from tax, plus a further £125,000 if you are passing your home on to a direct descendant. Anything above those thresholds will be taxed at 40% before it can be passed to your family – also it’s possible they will have to pay the tax BEFORE the estate is settled

You can reduce the tax your family will have to pay by giving them assets beforehand, reducing the value of your estate. If the gift, such as a cash lump sum, is made at least seven years before you die, it will be exempt from tax.

People often ask about giving their properties to family members before they die to reduce the tax, but this can go wrong.

A problem is the rule on a “gift with reservation of benefit” (GWROB), which is designed to stop people giving away assets such as properties at the same time as making use of them.

This means you cannot give your home to your children and continue to live there unless you are prepared to pay the market rate of rent – difficult for most people in the later stages of life. In order for the gift to qualify for IHT exemption if you continue to live in your property, you would have to pay rent at the market rate for at least seven years.

This rule also applies to holiday homes – if you give away your holiday property but still use it occasionally, you would have to pay a market rent for the length of your stay. Otherwise the asset is deemed to be part of the overall estate.

The tax implications of the GWROB rules can be severe.

or example, a widow who gave away her property in order to reduce the amount of IHT payable on her estate could inadvertently leave her son with more tax to pay than if she had done nothing at all.
If she continued to live in the house after the gift was made without paying the market rate of rent, even if she died more than seven years later, the taxman could take his 40% cut under the GWROB rules.

Also, as the widow had made the gift during her lifetime, she would lose her £125,000 family home allowance, as the property would not have passed directly after death.

Following the widow’s death, the son could also be liable to pay capital gains tax if he decided to sell the property, which could well have risen significantly in value over the years since the gift was made. Capital gains tax would apply on any money made over the annual tax-free allowance, currently £11,700, at a rate of 18%, or 28% for higher-rate taxpayers.

So some people could be leaving their families hundreds of thousands of pounds worse off by giving away properties without a thorough understanding of IHT rules.

The family home allowance or “residence nil-rate band”, which came into effect on April 6 2017, entitles each individual to an additional amount on top of their existing £325,000 inheritance tax exemption. This was originally £100,000, is now £150,000 and reaches £175,000 in April 2020. For a couple this means a £1m estate will eventually be able to be left tax free when their allowances are combined.

Property wealth now accounts for 76% of the average estate, but confusion over the gifting rules means this is an area that shouldn’t be gone into without a good understanding of the IHT rules. HMRC are trying to raise more money to fund public services, and individuals are easier to tax than companies.

It really is worth getting specialist advice on this (or doing your own research). IHT can almost be regarded as a ‘voluntary tax’ – there are many things you can do to reduce to the amount your family have to pay. You can reduce your tax bill by giving away cash lump sums, making use of tax-efficient investing or putting assets into trust structures. In terms of property you can consider moving to a smaller, cheaper home and giving away the money left over rather than handing over the properties themselves.

YouDrive thinks:

It seems unfair that tax has to be paid on money that has already been taxed, but that’s the law.  Given the money we need to fund social services and care, it’s unlikely that this will change, despite comments to the contrary.  

So it is important to do the planning to mitigate this while you can, and don’t make the mistake of doing the simple thing and giving away your house without taking advice.

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