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Inheritance Tax is a tax on the estate (the property, money and possessions) of someone who’s died. The standard Inheritance Tax rate is 40%. It’s only charged on the part of your estate that’s above the Nil Rate Band threshold (£325,000).

Estate planning is the process of deciding how to distribute assets efficiently to your beneficiaries. There are various difference solutions or strategies that you could consider in order to reduce any potential IHT liability.

One such strategy is gifting assets during your lifetime, however, with gifting, it is important that you understand what Taper Relief is and how it works, as it could affect the IHT exemptions you would get on any given gift.

It is important to note that there are risks associated with gifting:

• Loss of control: Once gifted, you no longer have control over that asset.
• Potential for IHT: If you die within seven years of gifting, the gift might still be subject to IHT, albeit at a tapering rate.

This article will explore how IHT Taper Relief works and how you can use gifts effectively to reduce your potential IHT liability.

What is Taper Relief for IHT?

While not a relief in the traditional sense, Taper Relief is a tax provision designed to encourage individuals to make substantial gifts well before their death. It offers a graduated reduction in the IHT rate charged on lifetime gifts made between three and seven years before death, which is why it is called Taper Relief. This relief applies to both Chargeable Lifetime Transfers (CLTs) and Potentially Exempt Transfers (PETs). Chargeable Lifetime Transfers involve gifts made during an individual’s lifetime that are immediately taxable under IHT, particularly transfers into trusts. These transfers may attract a 20% IHT on amounts exceeding the donor’s Nil Rate Band.  

The concept of Taper Relief can be majorly simplified like this: the longer you survive after making a gift, the less IHT will be due on that gift if you die within seven years. After seven years, the gift becomes completely exempt from IHT.

How Taper Relief works in practice

The rate of IHT reduces on a sliding scale based on the number of years between when the gift was made and when the person died. Here's how the Taper Relief percentages work:

• If you survive 3-4 years after making a gift, IHT is charged at 32% instead of 40%
• For survival of 4-5 years, the IHT rate drops to 24%
• Surviving 5-6 years reduces the rate further to 16%
• If you live 6-7 years after the gift, IHT is charged at just 8%
• Surviving 7 years or more means the gift is completely IHT exempt with 0% due

This graduated reduction incentivises making gifts earlier rather than later, as the potential tax savings increase the longer you survive after making the gift.

Maximising Taper Relief with gifting strategies

To make the most of Taper Relief, there are a number of gifting strategies that you can employ.

Make larger gifts earlier: The earlier you make substantial gifts, the more likely you are to benefit from maximum taper relief or even full exemption.

Structured gifting plans: Develop a plan to make gifts over several years, taking into account your financial needs and the seven-year timeline for full exemption.

Utilise various asset types: Consider gifting from surplus income, investments, or business interests to maximise the potential for relief.

Balance gifting with future needs: While gifting can reduce your IHT liability, ensure you retain sufficient assets for your potential future needs.

Regular smaller gifts: Remember that you can make regular gifts out of surplus income that are immediately exempt from IHT, in addition to larger gifts that may benefit from Taper Relief.

Annual gifting exemption: You can give away £3,000 worth of gifts each tax year without them being added to the value of your estate.  

Calculating Taper Relief: A step-by-step guide

To calculate Taper Relief for a gift, you will need the Date of Gift, Date of Death, and the Survival Period. Then, follow these steps:

1. Determine the value of the gift at the time it was made.
2. Calculate how many years have passed between the gift and the death of the donor.
3. Identify the applicable taper relief percentage based on the years survived - see the percentages under “How Taper Relief Works in Practice”.
4. Apply the reduced IHT rate to the value of the gift.

While these calculations can be complex, there are reputable online taper relief calculator tools available that can simplify the process. However, for accurate planning and calculations, it's always advisable to consult with a professional financial advisor or tax specialist.

Balancing Taper Relief and financial security

With the potential IHT savings from gifting, it's crucial to balance this against your own financial security. Gifting too much too soon could leave you vulnerable if your circumstances change or you face unexpected expenses in later life.

Consider the following when planning your gifting strategy:

1. Assess your current and future income needs
2. Factor in potential long-term care costs
3. Consider the impact of inflation on your remaining assets
4. Evaluate your risk tolerance for investments
5. Discuss your plans with family members to manage expectations

Remember, once a gift is made, you no longer have control over those assets. It's essential to be comfortable with your decision and confident in your remaining financial resources.

Other gifting exemptions to consider

Alongside Taper Relief there are other exemptions associated with gifting including:

1. Small gifts exemption: You can make small gifts of up to £250 to any number of people in a tax year.
2. Wedding gifts: Parents can give up to £5,000, grandparents up to £2,500, and anyone else up to £1,000 as wedding gifts.

Other IHT Solutions to consider

While gifting can be a powerful tool for reducing IHT, it's important to consider it as part of a broader IHT planning strategy. Other solutions to be aware of include:

1. Business Relief

BR Investments involve investing in qualifying businesses, offering potential for growth and rapid IHT exemption.

You can benefit from BR by; owning a trading business, investing in an estate planning solution with either unlisted share or AIM-listed shares or through an EIS.

However, please note that not all businesses qualify for BR but they have to be in a certain trade. https://www.gov.uk/business-relief-inheritance-tax/what-qualifies-for-business-relief

2. Trusts

Trusts are legal arrangements where assets are held and managed by a trustee for the benefit of designated beneficiaries, offering control and protection.

3. Life insurance

Insurance in estate planning typically involves life insurance policies that can offer immediate tax relief and financial security to beneficiaries.

Minimising your IHT liability through Taper Relief

Gifting can be a powerful tool to help you pass more of your hard-earned wealth to your loved ones. By gifting assets early, you could help to minimise your tax liability. But remember, it is important to find the right balance between gifting and maintaining your own financial security.

IHT planning can be complex, and everyone's situation is unique. That's why it's worth considering professional IHT advice from your financial adviser.  

While this article provides a general overview of IHT taper relief and gifting strategies, individual circumstances can vary widely. A good financial adviser can help you create a plan that works for you and your family, keeping you informed about any changes that might affect your strategy.

Opinions expressed represent the views of the author at the time of publication, are subject to change, and should not be interpreted as investment or tax advice.

Important notice: This article is for investment professionals only. This article is for information only and does not form part of a direct offer or invitation to purchase, subscribe for or dispose of securities and no reliance should be placed on it. No reliance should be made on this content to inform any investment of tax planning decision.

This content contains information that is believed to be accurate at the time of publication but is subject to change without notice. The explanation of all of the tax rules set out have been written in accordance with our understanding of the law and interpretation of it at the time of publication.

Whilst care has been taken in compiling this content, no representation or warranty, express or implied, is made by Downing as to its accuracy or completeness, including for external sources (which may have been used) which have not been verified.