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Best way to pass money to children to avoid IHT?

Tax | Inheritance Tax Helpful? 13

Asked by curious, submitted 07 May 2013.

Open Quote What is best way to pass on assets which is over the threshold, i.e. £650,000, to children without incurring Inheritance tax?End Quote

Answered by Justin on 05 June 2013

Let's start with the basics. Everyone's estate (i.e. net assets on death) is exempt from inheritance tax up to a threshold called a 'nil rate band', currently £325,000 until at least 2018. Amounts over this are subject to 40% inheritance tax.

However, married couples and civil partners can pass assets between each other free of inheritance tax and any unused nil rate band (as a percentage) on the first death can be transferred to the surviving spouse/civil partner, as you refer to.

Aside from a few allowances I'll cover in a moment, the only way to get assets outside of your estate is to give them away and live for at least 7 years. Furthermore, you can't continue to use assets, e.g. property, once given away unless you pay market value rent.

If you die within 7 years of making the gift it might be subject to taper relief, reducing the tax payable. However, since all (non-exempt) gifts within the last 7 years are offset against your nil rate band on death before other assets, taper relief is only likely to be relevant if total gifts (within the last 7 years) exceed your nil rate band.

If you don't want your children to have the assets right now you can gift them into some form of trust that will pass ownership to the children at some point in future. But again, you can't continue to use/enjoy the asset once gifted into trust.

There are various types of trust (read more on our inheritance tax page), although discretionary trusts tend to be popular since they offer lots of flexibility as to who gets what and when. However, potential inheritance tax benefits may be partly (or totally) offset by a 20% tax ('chargeable lifetime transfer') on transfers into a discretionary trust greater than the nil rate band followed by a further tax ('periodic charge') of 6% every 10 years. Capital paid out between periodic charges is effectively taxed on a pro-rata basis as an 'exit charge'.

Annual gift allowances include annual gifts totalling up to £3,000 (you can carry forward the previous year's allowance if unused) and as many (up to) £250 gifts per person that you wish to make. Wedding gifts of up to £5,000 per son or daughter are also exempt, as are gifts out of taxable income (not capital).

Investing in 'unquoted' companies, which includes AiM shares can mean the money falling outside of your estate after two years under business property relief rules. However, there is a list of criteria a company must meet to qualify - primarily it must not hold investments, including shares and land/property, And you'll need to keep holding the shares, as the relief is only granted when the 2 year holding period was during the 5 years immediately before death. Such investments can also prove high risk, so great care is needed.

Bottom line. If you can afford to give money/assets away forever to your children now and think there's a good chance you'll live for at least another 7 years then consider doing so. If you'd rather your children don't take ownership until a later date then consider using a trust, but beware of chargeable lifetime transfer/periodic charge taxes diminishing any potential inheritance tax saving if the gift (including other non-exempt gifts within the last 7 years) exceeds the nil rate band.


Please note this answer does not constitute a recommendation or financial advice and should not be relied upon when making specific investment or other financial decisions. You should always undertake your own research into whether a product or service is appropriate for your needs and, if necessary, use a qualified professional adviser.

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