Why “giving while living” might help your family pay less Inheritance Tax

As you might have read in our previous articles, Inheritance Tax (IHT) bills are increasing.

To remind you of why this is happening, here’s what you need to know:

• The nil-rate bands have been frozen until 2028. These represent the amount you can pass down as inheritance before IHT is due.
• The nil-rate band is £325,000, with an additional residence nil-rate band of £175,000 for those passing their home down to their direct descendants.
• As many families’ estates are continuing to rise in value, the freeze on the nil-rate bands has resulted in higher IHT bills.
• In the 2023/24 tax year, HMRC received in IHT, up £400 million from the previous year.

As this stealth tax continues to have an impact on some families, it may be wise to begin thinking about ways to mitigate IHT for your family. What’s more, many people don’t realise that the path to reducing IHT starts earlier in life.

Keep reading to learn about one effective way to potentially decrease the IHT liability your estate may attract when you pass away.

“Giving while living” reduces the value of your estate in the years before you pass away

The primary reason that IHT bills are rising for many UK families is because whilst the nil-rate bands remain fixed, the value of your estate could be rising.

For example, if you bought your family home 20 years ago, it is very likely that it is worth substantially more today than the amount you purchased it for. If you were to pass away, and anyone other than your spouse or civil partner inherited this property, its existing market value would be added to your estate along with your cash and investments – and potentially incur a higher IHT bill than they anticipated.

As such, you may want to consider a popular strategy called “giving while living”, which involves offering a gradual inheritance before you pass away.

Here’s how it works in three simple steps.

1. Use your annual exemption for financial gifts, or give funds directly from your income

Your annual exemption is the amount you can give away tax-efficiently each year in the form of cash, investments, property, and most other assets.

As of the 2024/25 tax year, the annual exemption stands at £3,000. This means you could give away up to £3,000 a year, split across as many beneficiaries as you like.

There is also a £250 “small gift exemption” through which you can give away as many gifts of up to £250 as you want, provided that you haven’t given another financial gift worth more than £250 to the same person.

In addition, some one-off circumstances also have their own gifting allowances in addition to the annual exemption, such as marriages or civil partnerships, for which you can give up to:

• £5,000 to your child
• £2,500 to a grandchild or great-grandchild
• £1,000 to any other person.

Importantly, if you give away more than these amounts in a single tax year but pass away less than seven years after giving the funds, the excess could be included as part of your taxable estate and/or be taxable on the recipient.

As such, it is crucial that gifts made from capital – cash savings, investments, or property – remain within available IHT exemptions if you wish to use them as a vehicle to immediately reduce IHT.

Using these tax breaks could allow you to reduce the value of your estate gradually before you die. This would mean that:

• Your beneficiaries would benefit from a boost to their income each year
• You’ll pass down less when you die, meaning your IHT liability could decrease as a result.

In addition to using your annual exemption, you could also employ another ‘giving while living’ strategy: offering some of your income to your beneficiaries on a long-term basis.

Indeed, as of the 2024/25 financial year, gifts made from income do not usually form part of your annual exemption. This means you could potentially give away as much money as you like every year – as long as it comes from income, not capital.

Some basic rules of thumb when giving money from your income are:

• These gifts should normally be made on a regular basis, rather than as one-offs.
• Your standard of living must not change as a result – for instance, if you had to sell your car or downsize your home to afford the gifts, they don’t meet the criteria for this exemption to potentially apply.

For example, if you had £300 a month left over after your regular outgoings, rather than investing or saving this money (which may only be caught in the IHT net later), you could give it straight to the next generation as a gradual, tax-efficient inheritance.

2. Work out how much you can afford to give to your family

One essential component of a ‘giving while living’ strategy is affordability.

With today’s higher-for-longer cost of living, your retirement may require a bigger pot of savings than you thought – especially when you consider a potentially longer life expectancy and the cost of later-life care.

For instance, the Office for National Statistics life expectancy calculator says that:

• A man who turns 60 in 2024 has a life expectancy of 85 – but there is a 25% chance he could live to 92.
• A woman aged 60 in 2024 may expect to live until she is 87, plus there is a 25% chance she could live to 94.

What’s more, according to research from Age UK, it costs an average of £800 a week for a place in a care home, or £1,078 to live in a nursing home. Unless your total capital stands at less than £23,250, you will likely have to fund your own care.

With all this to think about, it is important to work out how much you can afford to give away when looking to reduce IHT.

By ensuring that the gifts are sustainable and affordable, you may feel more comfortable with giving a gradual inheritance that could prove tax-efficient for your loved ones later on.

3. Talk to a Financial Planner about Inheritance Tax

Financial planning could be invaluable if you are worried about your family paying a large IHT bill when you pass away.

If you’re looking at giving while living options, we can help you on this path by:

• Using cashflow modelling software to map your financial future with clarity and accuracy
• Talking to you and your family about an affordable giving while living strategy
• Giving you an estimate of how much IHT your family may be liable to pay in future
• Working with you over the course of your lifetime to make sure your plan is still right for your family.

Even if you’re not yet retired or feel as if you are “too young” to form an IHT strategy, it is never too early to begin thinking about mitigating this form of tax.

Email us at enquiries@pen-life.co.uk, or call 01904 661140.

Please note

All information is correct at the time of writing and is subject to change in the future.

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

All contents are based on our understanding of HMRC legislation, which is subject to change.

The Financial Conduct Authority does not regulate estate planning, cashflow planning, or tax planning.