Giving away wealth

Tax-efficiently passing on parts of your estate

There are some important exemptions that allow you to legally pass your estate on to others, both before and after your death, without it being subject to Inheritance Tax.

Exempt beneficiaries
You can give things away to certain people and organisations without having to pay any Inheritance Tax. These gifts, which are exempt whether you make them during your lifetime or in your will, include gifts to:

your husband, wife or civil partner, even if you’re legally separated (but not if you’ve divorced or the registered civil partnership has dissolved), as long as you both have a permanent home in the UK

UK charities
some national institutions, including national museums, universities and the National Trust
UK political parties

But, bear in mind that gifts to your unmarried partner or a partner with whom you’ve not formed a registered civil partnership aren’t exempt.

Exempt gifts
Some gifts are exempt from Inheritance Tax because of the type of gift or the reason for making it. These include:

Wedding gifts/civil partnership ceremony gifts
Wedding or registered civil partnership ceremony gifts (to either of the couple) are exempt from Inheritance Tax up to certain amounts:
parents can each give £5,000
grandparents and other relatives can each give £2,500
anyone else can give £1,000

You have to make the gift on or shortly before the date of the wedding or civil partnership ceremony. If it is called off and you still make the gift, this exemption won’t apply.

Small gifts
You can make small gifts, up to the value of
£250, to as many people as you like in any one tax year (6 April to the following 5 April) without them being liable for Inheritance Tax.

But you can’t give a larger sum ñ £500, for example ñ and claim exemption for the first £250. And you can’t use this exemption with any other exemption when giving to the same person. In other words, you can’t combine a ësmall gifts exemption’ with a ëwedding/registered civil partnership ceremony gift exemption’ and give one of your children £5,250 when they get married or form a registered civil partnership.

Annual exemption
You can give away £3,000 in each tax year without paying Inheritance Tax. You can carry forward all or any part of the £3,000 exemption you don’t use to the next year but no further. This means you could give away up to £6,000 in any one year if you hadn’t used any of your exemption from the year before.

You can’t use your annual exemption and your small gifts exemption together to give someone £3,250. But you can use your annual exemption with any other exemption, such as the wedding/registered civil partnership ceremony gift exemption. So, if one of your children marries or forms a civil partnership you can give them £5,000 under the wedding/registered civil partnership gift exemption and £3,000 under the annual exemption, a total of £8,000.

Gifts that are part of your normal expenditure
Any gifts you make out of your after-tax income
(but not your capital) are exempt from Inheritance Tax if they’re part of your regular expenditure.

This includes:

monthly or other regular payments to someone, including gifts for Christmas, birthdays or wedding/civil partnership anniversaries
regular premiums on a life insurance policy (for you or someone else)

It’s a good idea to keep a record of your after-tax income and your normal expenditure, including gifts you make regularly. This will show that the gifts are regular and that you have enough income to cover them and your usual day-to-day expenditure without having to draw on your capital.

Maintenance gifts
You can also make Inheritance Tax-free maintenance payments to:

your husband or wife
your ex-spouse or former registered civil partner
relatives who are dependent on you because of old age or infirmity
your children (including adopted children and step-children) who are under 18 or in full-time education

Potentially exempt transfers
If you, as an individual, make a gift and it isn’t covered by an exemption, it is known as a potentially exempt transfer (PET). A PET is only free of Inheritance Tax if you live for seven years after you make the gift.


Trust in your future

Helping you control and protect family assets

One of the most effective ways you can manage your estate planning is through setting up a trust. The structures into which you can transfer your assets can have lasting consequences for you and your family and it is crucial that you choose the right ones. The right structures can protect assets and give your family lasting benefits.

A trust is a legal arrangement where one or more trustees are made legally responsible for assets. The assets – such as land, money, buildings, shares or even antiques – are placed in trust for the benefit of one or more beneficiaries.

The trustees are responsible for managing the trust and carrying out the wishes of the person who has put the assets into trust (the settlor). The settlorís wishes for the trust are usually written in their will or given in a legal document called the trust deed.

The purpose of a trust
Trusts may be set up for a number of reasons,
for example:

to control and protect family assets
when someone is too young to handle their affairs
when someone canít handle their affairs because they are incapacitated
to pass on money or property while you are still alive
to pass on money or assets when you die under the terms of your will – known as a will trust
under the rules of inheritance that apply when someone dies without leaving a valid will (England and Wales only)

There are several types of UK family trusts and each type of trust may be taxed differently. There are other types of non-family trusts. These are set up for many reasons – for example, to operate as a charity, or to provide a means for employers to create a pension scheme for their staff.

What is trust property?
A trust property is a phrase often used for the assets held in a trust. It can include:

money
investments
land or buildings
other assets, such as paintings, furniture or jewellery – sometimes referred to as chattels

The cash and investments held in a trust are also called the trust capital or fund. This capital or fund may produce income, such as interest on savings or dividends on shares. The land and buildings may produce rental income. Assets may also be sold producing gains for the trust. The way income is taxed depends on the type of income and the type of trust.

What is a settlor?
A settlor is a person who has put assets into the trust. This is known as settling property. Assets are normally put into the trust when itís created, but they can also be added at a later date. The settlor decides how the assets in the trust and any income received from it should be used. This is usually set out in the trust deed.

In some trusts, the settlor can also benefit from the assets theyíve put in. These types of trust are known as settlor-interested trusts and they have their own tax rules.

The role of the trustees
Trustees are the legal owners of the assets held in a trust. Their role is to:

deal with trust assets in line with the trust deed
manage the trust on a day-to-day basis and pay any tax due on the income or chargeable gains of the trust
decide how to invest the trustís assets and/or how the assets in the trust are to be used – although this must always be in line with the trust deed

The trust can continue even though the trustees might change. However, there must be at least one trustee. Often there will be a minimum of two trustees: one trustee may be a professional familiar with trusts – a lawyer, for example – while the other may be a family member or relative.

What is a beneficiary?
A beneficiary is anyone who benefits from the assets held in the trust. There can be one or more beneficiaries, such as a whole family or a defined group of people, and each may benefit from the trust in a different way.

For example, a beneficiary may benefit from:

the income only – for example, they might get income from letting a house or flat held in a trust
the capital only – for example, they might get shares held on trust when they reach a certain age
both the income and capital of the trust - for example, they might be entitled to the trust income and have a discretionary interest in trust capital

If youíre a beneficiary you may have extra tax to pay or be entitled to claim some back depending on your overall income.

Trust law in Scotland
The treatment of trusts for tax purposes is the same throughout the United Kingdom. However, Scottish law on trusts and the terms used in relation to trusts in Scotland are different from the laws of England and Wales, as well as Northern Ireland.

When you might have to pay Inheritance Tax on
your trust

There are four main situations when Inheritance Tax may be due on trusts:

when assets are transferred – or settled – into a trust
when a trust reaches a ten-year anniversary of when it was set up
when assets are transferred out of a trust or the trust comes to an end
when someone dies and a trust is involved when sorting out their estate

The right type of trust
Ensure you donít more tax than is necessary
There are now three main types of trusts.

Bare (Absolute) trusts
With a bare trust you name the beneficiaries at outset and these canít be changed. The assets, both income and capital, are immediately owned and can be taken by the beneficiary at age 18 (16 in Scotland).

Interest in possession trusts
With this type of trust, the beneficiaries have a right to all the income from the trust, but not necessarily the capital. Sometimes, a different beneficiary will get the capital ñ say on the death of the income beneficiary. Theyíre often set up under the terms of a will to allow a spouse to benefit from the income during their lifetime but with the capital being owned by their children. The capital is distributed on the remaining parentís death.

Discretionary trusts
Here the trustees decide what happens to the income and capital throughout the lifetime of the trust and how it is paid out. There is usually a wide range of beneficiaries, but no specific beneficiary has the right to income from the trust.

Some trusts will now have to pay an Inheritance Tax charge when they are set up, at 10 yearly intervals and even when assets are distributed. The right type of trust in conjunction with your overall financial planning could help minimise the amount of Inheritance Tax payable. This is a highly complex area and you should obtain professional advice to ensure the right type of trust is set up for your particular circumstances.


Transferring assets

Using a trust to pass assets to beneficiaries

Trusts may incur an Inheritance Tax charge when assets are transferred into or out of them or when they reach a ten-year anniversary. The person who puts assets into a trust is known as a settlor. A transfer of assets into a trust can include property, land or cash in the form of:

A gift made during a personís lifetime
A transfer or transaction that reduces the value of the settlorís estate (for example, an asset is sold to trustees at less than its market value) – the loss to the personís estate is considered a gift or transfer
A potentially exempt transferí whereby no further Inheritance Tax is due if the person making the transfer survives at least seven years. For transfers after 22 March 2006 this will only apply when the trust is a disabled trust
A gift with reservation where the transferee still benefits from the gift

If you die within seven years of making a transfer into a trust, extra Inheritance Tax will be due at the full amount of 40 per cent (rather than the reduced amount of 20 per cent for lifetime transfers).

In this case your personal representative, who manages your estate when you die, will have to pay a further 20 per cent out of your estate on the value of the original transfer. If no Inheritance Tax was due when you made the transfer, the value of the transfer is added to your estate when working out whether any Inheritance Tax is due.

Settled property
The act of putting an asset into a trust is often known as making a settlement or settling property. For Inheritance Tax purposes, each item of settled property has its own separate identity.

This means, for example, that one item of settled property within a trust may be for the trustees to use at their discretion and therefore treated like a discretionary trust. Another item within the same trust may be set aside for a disabled person and treated like a trust for a disabled person. In this case, there will be different Inheritance Tax rules for each item of settled property.

Even though different items of settled property may receive different tax treatment, it is always the total value of all the settled property in a trust that is used to work out whether a trust exceeds the Inheritance Tax threshold and whether Inheritance Tax is due.

If you make a gift to any type of trust but continue
to benefit from the gift you will pay 20 per cent
on the transfer and the gift will still count as part
of your estate. These are known as gifts with reservation of benefit.

Avoiding double taxation
To avoid double taxation, only the higher of these charges is applied and you wonít ever pay more than 40 per cent Inheritance Tax. However, if the person who retains the benefit gives this up more than seven years before dying, the gift is treated as a potentially exempt transfer and there is no further liability if the transferor survives for a further seven years.

From a trusts perspective, there are four main occasions when Inheritance Tax may apply to trusts:

when assets are transferred – or settled – into a trust
when a trust reaches a ten-year anniversary
when settled property is transferred out of a trust or the trust comes to an end
when someone dies and a trust is involved when sorting out their estate

Relevant property
You have to pay Inheritance Tax on relevant property. Relevant property covers all settled property in most kinds of trust and includes money, shares, houses, land or any other assets. Most property held in trusts counts as relevant property. But property in the following types of trust doesnít count as relevant property:

interest in possession trusts with assets that were put in before 22 March 2006
an immediate post-death interest trust
a transitional serial interest trust
a disabled personís interest trust
a trust for a bereaved minor
an age 18 to 25 trust

Excluded property
Inheritance Tax is not paid on excluded property (although the value of the excluded property may be brought in to calculate the rate of tax on certain exit charges and ten-year anniversary charges). Types of excluded property can include:

property situated outside the UK that is owned by trustees and was settled by someone who was permanently living outside the UK at the time of making the settlement
government securities, known as FOTRA (free of tax to residents abroad)

Inheritance Tax is charged up to a maximum of 6 per cent on assets or property that is transferred out of a trust. The exit charge, which is sometimes called the proportionate charge, applies to all transfers of relevant property.

A transfer out of trust can occur when:

the trust comes to an end
some of the assets within the trust are distributed to beneficiaries
a beneficiary becomes absolutely entitled to enjoy an asset
an asset becomes part of a ëspecial trustí (for example, a charitable trust or trust for a disabled person) and therefore ceases to be relevant property
the trustees enter into a non-commercial transaction that reduces the value of the trust fund

There are some occasions when there is no Inheritance Tax exit charge. These apply even where the trust is a relevant property trust, for instance, it isnít charged:

on payments by trustees of costs or expenses incurred on assets held as relevant property
on some payments of capital to the beneficiary where Income Tax will be due
when the asset is transferred out of the trust within three months of setting up a trust, or within three months following a ten-year anniversary
when the assets are excluded (property foreign assets have this status if the settlor was domiciled abroad)

Passing assets to beneficiaries
You may decide to use a trust to pass assets to beneficiaries, particularly those who arenít immediately able to look after their own affairs. If you do use a trust to give something away, this removes it from your estate provided you donít use it or get any benefit from it. But bear in mind that gifts into trust may be liable to Inheritance Tax.

Trusts offer a means of holding and managing money or property for people who may not be ready or able to manage it for themselves. Used in conjunction with a will, they can also help ensure that your assets are passed on in accordance with your wishes after you die.

Writing a will
When writing a will, there are several kinds of trust that can be used to help minimise an Inheritance Tax liability. From an Inheritance Tax perspective, an ëinterest in possessioní trust is one where a beneficiary has the right to use the property within the trust or receive any income from it. Assets put into an interest in possession trust before 22 March 2006 are not considered to be relevant property, so there is no ten-yearly charge.

During the life of the trust there are no exit charges as long as the asset stays in the trust and remains the ëinterestí of the beneficiary.

If the trust also contains assets put in on or after 22 March 2006, these assets are treated as relevant property and are potentially liable to the ten-yearly charges.


Who gets what?

Don’t leave your heirs embroiled in years of legal feuding

If you leave everything to your spouse or registered civil partner, in this instance there usually won’t be any Inheritance Tax to pay because a spouse or registered civil partner counts as an exempt beneficiary. But bear in mind that their estate will be worth more when they die, so more Inheritance Tax may have to be paid then.

Other beneficiaries
You can currently leave up to £325,000 tax-free to anyone in your will (frozen until April 2014), not just your spouse or civil partner. So you could, for example, give some of your estate to someone else or a family trust.

Inheritance Tax is then payable at 40 per cent on any amount you leave above this.

UK Charities
Inheritance Tax isn’t payable on any money or assets you leave to a registered UK charity ñ these transfers are exempt.

From 6 April 2012, if you leave 10 per cent of your estate to charity the tax due may be paid at a reduced rate of 36 per cent instead of 40 per cent.

Wills, trusts and financial planning
As well as making a will, you can use a family trust to pass on your assets in the way you want to. You can provide in your will for specific assets to pass into a trust or for a trust to start once the estate is finalised. You can also use a trust to look after assets you want to pass on to beneficiaries who can’t immediately manage their own affairs (either because of their age or a disability).

You can use different types of family trust depending on what you want to do and the circumstances. If you are planning to set up a trust you should receive specialist advice. If you expect the trust to be liable to tax on income or gains you need to inform HM Revenue & Customs Trusts as soon as the trust is set up. For most types of trust, there will be an immediate Inheritance Tax charge if the transfer takes you above the Inheritance Tax threshold. There will also be Inheritance Tax charges when assets leave the trust


Take it step by step

How to avoid the probate pitfalls

A look at the steps to take in England and Wales (the process differs in Scotland and Northern Ireland).

Step 1 – Value the estate to see if you need a grant of representation.
When you might not need a grant of representation

A grant may not be needed if the estate:

is a low-value estate - generally worth less than £5,000 (though this figure can vary) – and doesnít include land, property or shares
passes to the surviving spouse/civil partner because it was held in joint names

When you contact the deceasedís bank or other financial institutions, they will either release the funds or tell you to get a grant of representation (or confirmation) first.

Some banks and financial institutions may insist on a grant before giving you access to even a small amount of money.

When a grant of representation is usually needed

You will almost certainly need a grant if the estate includes:

assets generally worth more than £5,000 in total (though again this figure varies)
land or property in the sole name of the deceased, or held as tenants in common with someone else
stocks or shares
some insurance policies

Step 2 – Applying for a grant of representation
Youíll have to fill in an Inheritance Tax form in addition to the PA1 Probate Application form, even if the estate doesnít owe Inheritance Tax. The estate will only owe Inheritance Tax if itís over the threshold currently £325,000 (frozen until April 2014).

The Inheritance Tax forms you need depend on the following:

where the deceased lived – England and Wales, Scotland, Northern Ireland or abroad
the size of the estate
whether it is an excepted estate (i.e. you donít need to fill in a full Inheritance Tax account – form IHT400)

Usually, if an estate has no Inheritance Tax to pay, it will be an excepted estate. However, this is not always the case. Some estates that donít owe Inheritance Tax still require a full Inheritance Tax account.

If youíre not sure whether the estate is an excepted estate, youíll need to start filling in a Return of Estate Information form (form IHT205 in England and Wales).

Depending on your answers to certain questions, the form will make clear when you should stop filling in that form and switch to form IHT400 (a full Inheritance Tax account) instead.

Step 3 – Send the forms to the relevant government bodies
Send completed IHT205 forms and the PA1 Probate Application form to your nearest Probate Registry.

Youíll also have to include the original will (if there is one), the death certificate, and the probate fee. If youíve filled in form IHT400, follow the instructions on page 55 of the IHT400 guidance notes.

The process is different in Scotland and Northern Ireland.

Step 4 – Pay any Inheritance Tax due
If the estate owes Inheritance Tax, you wonít receive the grant of representation (or confirmation) unless you pay some or all of the Inheritance Tax first. The due date is six months after the date of death.

Steps 5 to 7 – What happens next?
Once youíve paid any Inheritance Tax and sent off the forms to the Probate Registry, the process takes about eight weeks if there are no problems. There are three stages:

examination of forms and documents - Probate Registry staff check the forms and documents and prepare the papers for your interview

swear the oath – all the personal representatives who have applied for a grant of representation will need to swear an oath, either at the Probate Registry or local probate office

probate is granted - the grant of representation is sent to you by post from the Probate Registry

After you get the grant of representation (or confirmation) and have paid any Inheritance Tax due, you can collect in the money from the estate. You can then pay any debts owed by the estate and distribute the estate according to the will or the rules of intestacy.