How not to fall into the 7 year trap
Daniel Thomassen of accounting firm HW Fisher said couples should think carefully about who should give the gift to avoid falling victim to the seven-year rule.
“Generally, we see gifts given by spouses who are in good health or younger, because they are likely to live seven years,” he said.
“Alternatively, to spread the risk, they might decide to make gifts of 50 pc each. At least 50% of the gross amount is likely to be excluded from at least one property for inheritance tax purposes.”
One option is to purchase an insurance policy called “life gift” insurance, designed to pay out if the gift falls into the seven-year trap.
“For annual premiums, the insurance covers inheritance tax payable on a gift if the gift does not last for seven years,” Thomasen said. “This provides reassurance to estate executors who may not have sufficient liquidity to settle inheritance tax bills on gifts.”
Your executor will be asked to inform HMRC that you have made a gift within the last seven years. This is why it is important to keep a record of your gifts to make life easier for your loved ones.
“The deadline for HMRC inquiries on inheritance tax is important,” Mr Tomassen said. “A good record can therefore ensure that the executor pays the correct amount of inheritance tax and minimizes the possibility of penalties imposed by HMRC.”
Does the 7 year rule apply to trusts?
The rules are more complicated when the gift is a trust.
Gifts of this nature are called Chargeable Lifetime Transfer (CLT). This means that you immediately assume the responsibility of the IHT. This does not mean that IHT will be imposed on her immediately, but it should be evaluated at the time of death to determine whether IHT is responsible.
If the total CLT made within 7 years is within the zero rate band, there is no obligation to pay IHT. However, if you exceed the limit, you will be charged at a rate of 20% for overages.
“If you die within seven years of setting up the trust, the 20% tax rate will need to be reassessed on a sliding scale,” said Kumar Jeswa of Coutts, a wealth manager.
You may have heard that the “14-year rule” applies to trusts.
If you had a CLT over 7 years before you died and a PET within 7 years after that, you’d have to look back over 14 years to see how many zero-rate bands were still available. This is because even if the CLT were created beyond his 7 years, the zero-rate band could have decreased.
If possible, you should wait at least 7 years away from making your CLT before making another CLT or PET to avoid hitting the 14-year rule. Alternatively, PET can be made before CLT.
