Guide to gifting property and tax

There are several ways people can reduce potential inheritance tax (IHT) liabilities before they die by making cash gifts to relatives and other beneficiaries.

But for many, the value of the property they own is the biggest reason their families could face sizeable IHT bills. 

So what steps can be taken in advance to limit the amount of tax that could be payable on a family home or even a buy-to-let or holiday property after the owner’s death?

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Inheritance tax rates

It is worth starting by considering to what extent your family could be affected by IHT. At present, the tax is charged at 40% on any part of an estate valued at above £325,000. For example, a property worth £400,000 will be taxed at 40% of £75,000 (£400,000 minus the £325,000 allowance).

Married couples and civil partners can combine their allowances, which means that they can pass on £650,000 in assets after their deaths (assets that are bequeathed from one partner to another are not liable to IHT).

If your property is worth less than the £325,000 limit (or £650,000 if you are part of a couple), there may seem to be no pressing need to take steps to minimise IHT.

However, it is worth bearing in mind that rising property prices over the years are likely to push more families into the IHT net, especially if the government does not significantly increase the £325,000 allowance.

Read more about reducing your inheritance tax liability. 

There are other reasons to act early, as we explain below.

Leaving property to your descendants

Rules regarding leaving property to children or grandchildren has changed in recent years. An additional tax-free amount, referred to as the residence nil-rate band, can be added to the tax-free sum for direct descendants (children and grandchildren) but no one else.

For deaths in the tax year 2020/2021 the nil-rate band is £175,000 and can be added to the standard tax-free allowance of £325,000, bringing up the total to £500,000. For couples the total is £1 million. The plan is for it to increase with inflation annually, and it has been gradually increasing for the last few years, with deaths in the tax year 2019/2020 having an allowance of £150,000.

Gifting property to family members

One possible way to avoid IHT, or at least minimise its impact, is by making a gift of your property to your heirs while you are still alive. 

Provided that you live for at least seven years after making the gift, the property could fall outside of your estate when IHT is calculated. (If you were to die between three and seven years of the gift being made, the rate of IHT would be subject to taper relief and therefore below 40%.)

You can remain living in the home after you have gifted it, but you cannot do so rent-free if you want the property to be discounted from any IHT calculation after the seven-year qualifying period has ended.

HM Revenue & Customs rules state that the person or people who have made the gift must pay the beneficiary rent at the “going rate” (that is, the rate that applies to similar properties in the local area) in order for the home to fall outside the IHT net.

Other tax implications

Stamp duty does not normally apply to gifts like those described above. But if you are gifting a property which is not your principle residence, such as a buy-to-let flat or a holiday home, the gift could incur capital-gains tax (CGT).

This would be calculated on the difference between the purchase price and the property’s value at the time of the gift. CGT is currently charged at 28% for higher-rate taxpayers. For basic-rate tax payers the amount of CGT you pay will depend on your total taxable gains and your taxable income. minus your personal allowance and tax-free allowance. If the total is still under the basic rate tax band you will be expected to pay 18% on residential property CGT, or 28% on any amount above the basic tax rate.

In the 2020-21 financial year, there is a personal CGT allowance of £12,300: only gains above this level are taxable. You must report CGT on UK property within 30 days of selling your property or you will be asked to pay interest and a penalty.

Finally, if you are paying rent to remain living in your home, the recipients of this rent will have to pay income tax on it.

Things you need to know before signing your property over to your children. 

Potential pitfalls

If you give your home away, you will no longer be the legal owner and you will have no legal right to remain resident in it. In the vast majority of cases, this creates no problems: but it is worth considering what might happen if you were to fall out with the beneficiaries.

Equally, if you gave your home to your son or daughter and they subsequently got divorced, their wife or husband may have a claim to some of the value of the property. 

And if the beneficiary got into financial difficulties and became bankrupt, your property could be put at risk.

For more news and useful information, browse our money articles.

Going into care

If you or your spouse need to go into full-time residential care, your local authority will normally carry out a financial assessment to determine how much money you should contribute to the costs.

If the council deems that you have made the gift of your home in order to reduce this contribution level, it may decide to ignore the gift and include the property in its assessment. In such a case, council will consider the gift a “deliberate deprivation of assets”.

Authorities are less likely to take this view if the gift was made several years before it became clear that it was necessary for you or your spouse to go into care.

Can you avoid care home fees?

Seeking expert advice

Gifting property is a very complicated process and, although it can offer significant benefits in terms of IHT reduction, it is fraught with potential pitfalls. 

It is important therefore to seek independent financial advice to help you weigh up all the pros and cons before taking such a step.

Informative, in-depth and in the know: get the latest money news with Saga Magazine.