This article is part of a series first published in eprivateclient in summer 2020, which considers these opportunities in more detail. Click below to read our other articles.
Part 2: Making lifetime gifts to the next generation Part 3: Gifting buy-to-let property
Part 4: Giving to charity – good for the soul but what about tax?
In broad terms, the aim of estate planning is to reduce the value of an individual’s estate such that, on death, the value exposed to Inheritance Tax (IHT) is minimised. This aim must however be balanced with an understanding of what income and capital assets an individual may need, to cover the costs of living to, what we all hope, is a ripe old age!
A fundamental part of estate planning is therefore to consider what assets an individual holds and which are surplus to their current and future requirements. In doing so, one can then look at a programme of lifetime giving, often directly to the next generation but possibly also to grandchildren, albeit with the appropriate protection, usually via a Trust.
The value of the asset is important for a number of reasons.
A liability to IHT arises for a UK domiciled individual in two scenarios.
Any lifetime gift made by one individual to another is a Potentially Exempt Transfer (PET). The gift is ‘potentially exempt’ because if the donor survives the gift by seven years, the value gifted falls outside of their estate and is therefore exempt. Until the ‘clock’ reaches seven years, the gift is only potentially exempt, however the effective rate of IHT applying to a failed PET is discounted after three years on a tapered basis:
There are a number of reliefs available which can be used to reduce the exposure to IHT, not least the fact that transfers between UK domiciled married couples and civil partners are tax free.
All these can and should be taken into account as part of the overall plan for the estate and can go some significant way to reducing the tax position on death.
Typically, nothing is off the table when considering estate planning. However, some assets are harder to give away than others, particularly where the donor still wants to use or enjoy it. The family home is usually the most difficult and, in many cases, it is the most valuable taxable asset in the estate. That said, property, artwork, jewellery, cash and business interests should all be considered. The implications of each will be considered as we progress through the series.
The reduction in asset values has presented us with a unique opportunity to review estate planning and a make some meaningful inroads in to the tax exposure for many people. We should also be mindful of the fact that there are likely to be changes to the tax system across the board, as people pay for the financial support provided by the government during this pandemic. IHT is likely to be high on the list for reform, alongside the potential introduction of a wealth tax. It may therefore be advisable to take action sooner rather than later.
That said, tax should not be the ultimate driver for family wealth planning, it should always be considered in conjunction with asset protection and the family’s wishes. As we progress through this series, we will look at how Trusts and other structures can play a part in this and how they can work on a practical level.