All I want for Christmas is…a gift without a surprise tax bill

The Christmas period is fast approaching, with the shops finally allowed to open for a last minute pre-Christmas gift buying frenzy. But there are some gifts out there which can come with an unwanted extra – tax. Gary Smith, chartered financial planner at Tilney, looks at the rules surrounding gifting and what the tax implications are.

“Each year, many people give monetary gifts to loved ones such as spouses, children and grandchildren as well charities and other organisations. While this is obviously a generous thing to do, you must be aware of the potential tax implications before you do. Many of these gifts will fall within the HMRC’s allowable limits, but there may be some that inadvertently cause tax issues for both the giver and the recipient.”

What are the tax rules for financial gifts?

“The good news is that gifts up to any value between UK domiciled spouses and civil partners are free from tax. Gifts for the National Benefit, such as gifts to museums and libraries etc, are all free from tax too. Gifts to Charity of any value are also free from tax and may even qualify you for an element of tax relief through Gift Aid.

“However, it should also be noted that gifts to individuals that do not fall within the above categories are potentially taxable unless they meet the following conditions:

• Total gifts made by you in a tax year total less than £3,000. You can also carry forward any unused £3,000 allowance from the previous tax-year, making a financial gifts of up to £6,000 possible this Christmas
• Small gifts of up to £250 can be made to any number of people in the tax year, provided the total to any one person does not exceed £250. If it does, this exemption does not apply and all gifts would start to use up the afore-mentioned £3,000 allowance
• Gifts out of regular income that are part of normal ongoing expenditure can also be made
• Money can also be given as a gift tax free in the event of a marriage or civil partnership amounting to £5,000 from each parent, £2,500 from each grandparent and up to £1,000 from any other person. These would not use up any of the other allowances

“For parents or grandparents wanting to give a financial gift to their children, they should also be aware of the ability to fund a pension for their children. This way, the child gets basic rate tax relief, even though they may not be paying any tax. A gross pension contribution of up to £3,600 can be made for a child, meaning the parent or grandparent makes a subscription of £2,880 which is topped up by £720 by the government into £3,600 with the tax relief. The fact that the investment will grow over many years will give a child a great start to their retirement planning. Of course the downside to this is that they can’t access it until much later in life – currently 55 – but I would expect that to be older by the time the child reaches that age.

What happens if you breach any of these limits?

“Well, there is actually no tax due on the donor of the gift during their lifetime. Tax would only be payable if the donor died within a period of seven years from the date of the gift and this can be up to 40% of the value of the gift made. The bad news is that it is the recipient of the gift who will be liable for this, even though they have no control over the situation whatsoever and may not have the resources to meet a surprise tax bill. Whether the charge becomes due will depend upon the donor’s other lifetime gifts before death and available ‘Inheritance Tax Nil Rate Band’ – that is, the amount up to which an individual can leave as a legacy before a tax charge becomes due. The current Nil Rate Band is £325,000.

“One thing most won’t people won’t be aware of is that if the donor dies within seven years of the gift, but the value of the gift falls within the deceased’s Inheritance Tax Nil Rate Band (resulting in no tax for the recipient) it could transpire that another beneficiary of the deceased’s estate could end up effectively paying the tax for it!

“In the main, the only time a donor will be subject to tax upon a gift during their lifetime would be if they:

• Gifted something but continuing to receive a benefit from it (such as a house where they continued to reside); or
• If they made a gift to a discretionary trust, over the donor’s available Inheritance Tax nil rate band

“Both of the above can be quite complicated and therefore specialist tax advice must be sought if you feel you are subject to either.

“So, many people will not know that making a simple gift could give rise to a tax charge for the donor, the person receiving the gift and perhaps even someone else completely! Ultimately if you are making gifts of significant value, this falls within the area of estate planning. This is a very complex area and professional financial advice should always be sought.”