Lifetime gifts - a growing appetite for change?

It’s now a year since the Office of Tax Simplification (OTS) released its second report and recommendations for change in relation to inheritance tax (IHT).

A key part it covers lifetime gifts and has been followed by similar calls for change from other quarters.

The OTS report followed a consultation on IHT which began back in January 2018. In its response to the consultation, the Law Society highlighted various difficulties and common misconceptions arising around lifetime gifts, particularly that the effects of the technical rules may be misunderstood by the public.

Existing rules

Lifetime gifts can of course be made at any time, but will still form part of the estate for IHT purposes, subject to the annual exemption and related allowances/exemptions. The current annual exemption is £3,000 (from 6 April to 5 April). Any leftover allowance may be able to be carried over to the following tax year, so a lifetime gift may be exempt from IHT regardless of how long before death the gift is given.

The small gifts exemption is still £250. Taper relief applies where a lifetime gift falls within potential IHT liability.

Proposals for reform reflect the fact that the existing rules are confusing, particularly around the technical rules. The OTS highlighted the fact that the rules may interact to give different results as to IHT liability, depending on the particular case. The relevant factors include when the gift was made; whether there was a retention of benefit; whether the donor specifies in their will who should bear the cost of IHT on the gift; and the value of the nil rate band to the estate as a whole.

Appetite for change

The OTS said it had received evidence that the present array of gift exemptions is complex and creates confusion. For example, the 7-year taper period is considered too long and requires a large amount of record keeping; the way it works is misunderstood; and it is sometimes unclear who bears the responsibility for payment of IHT on a gift.

A particularly complex area is the so-called 14-year rule. Here, when calculating whether IHT is payable on a lifetime gift, the value of it must be added both to other relevant gifts to individuals within 7 years of death, and to any chargeable lifetime transfers in the 7 years before the lifetime date itself.

The effect is that gifts may be taken into account going back 14 years before the date of death. “It will rarely be possible to predict the outcome at the time the gifts are made as there is a 7-year waiting period,” the Law Society pointed out in its response to the consultation.

It also said that “the executors' secondary liability to pay the tax on a failed PET is harsh” – a concern the Society had already raised with HMRC. There is also “little understanding of the need to keep records of lifetime gifts, by both the donor and donee of the gifts”. The Society suggests an increase in the amount of the annual exemption to, say £10,000; and doing more to remove small or insignificant amounts from the scope of monitoring.

The OTS came up with some radical proposals, recommending in its report:

  • Reducing the 7-year to 5 years, abolish taper relief and consider removing the 14-year rule
  • Exploring options for simplifying and clarifying the rules on liability for payment of tax on lifetime gifts to individuals and the allocation of the NRB.
  • Replacing the annual exemption, gifts in consideration of marriage or civil partnership, and possibly gifts out of surplus income, with a single overall personal gifts allowance. As an alternative, to one allowance, the need for expenditure to be ‘regular’ should be removed and replaced by a fixed percentage of income, to make this exemption more intuitive, accessible and reduce record keeping requirements.

What next?

Government may or may not consider implementing the OTS recommendations – we don’t yet know. The reality is, more pressing matters have occupied much of government priorities in the last year. However, the fact that the OTS received what it described as “an unprecedented level of engagement” (including nearly 3,000 responses to an online survey, 500 emails from the public and 100 written responses) following its call for evidence, demonstrates the appetite for change.

There is also pressure from the OECD, which only recently suggested introducing a lifetime wealth transfer tax on gift recipients. This would mean giving individuals a lifetime allowance for receiving wealth tax-free, with tax applied above this threshold.

Similarly, MPs on the AAPG on inheritance and intergenerational fairness have also called for change. Last year it proposed ending the ability to pass on tax free lifetime gifts by imposing an immediate 10% tax on all gifts of up to £30,000 a year.

But for now, there may be little political appetite for such radical change in the short term, not to mention the administrative implications for HMRC if any recommendations were to be adopted. But there’s no doubt that the pressure is on.


Posted on 07.09.21