A column which I wrote a couple of weeks back about releasing equity from your home to mitigate inheritance tax created some further questions which I will mop up here.
Can I give my house away and still live in it? Technically yes you can, but it wouldn’t be a successful plan for inheritance tax planning. Firstly, it’s a gift with reservation, in other words, you give it away but still benefit from it. It’s a bit like having a nice expensive painting in your home but stating you gave it to someone years before. Every day you would have seen the painting and gained from it, so it would be a gift with reservation and be added back into your estate.
If you give it away and leave the home, of course the gift would be outside your estate after seven years. To avoid the gift being classified as a ‘gift with reservation of benefit’ you need to pay rent to the new owner which I suspect would be a member of the family. That income will be taxable against them. It must be at market value; you will have to pay the correct share of bills and of course you will have to live for seven years for the entire gift to leave the estate as it’s a potentially exempt transfer. There is a sliding scale in those seven years.
If you gave away just part of your property, and the new owners also live with you, the requirement to pay rent is waived but you must share your cost of the upkeep and outgoings associated with the property.
Risks? They could get annoyed with you and evict you. They may get divorced, and you would then lose 50% of your home instead of the 40% tax. You might not like the whole idea of sharing without any restrictions. Furthermore, if you own the property there is no capital gains tax to pay on gains of the property but if you have given it away the recipient may pay capital gains tax on any gains.
With the residence nil rate band of £175,000, and the normal nil rate band of £325,000, joint couples have £1 million of property assets they could pass on, so, gifting the property away isn’t quite a first option move. The considerations which I gave in my last column around equity release and lifetime mortgages are worth considering so you can benefit from both the nil rate bands and Inheritance Tax laws which offer the ability to make other gifts.
Can I borrow money from my home and gift into an asset which qualifies for business relief? You used to be able to create a debt, perhaps against your home, then take that capital and put it into relief asset and after two years there was 100% relief against that asset for inheritance tax. The rules now mean that if you borrow money to purchase assets which qualify for business relief, like Alternative Investment Market (AIM) shares, the loan will first reduce the value of those business assets when it comes time to calculate the relief.
For example, John borrows £500,000 secured against his home to buy AIM shares. His remaining estate is worth £1.5 million. When John passes away five years later, those shares have appreciated to £625,000 and qualify for business relief.
However, the loan must be deducted from the value of the shares first, leaving £125,000 of the shares which qualify for business relief. This relief is applied, but the outstanding loan’s remaining value still needs to be deducted from the rest of the estate.
So, when we tally up the estate, including those AIM shares, it totals £2,075,000. After applying the £125,000 business relief and deducting the £500,000 loan, the chargeable estate is reduced to £1.5 million.
While business relief still offers significant benefits, the use of loans in this way no longer provides the inheritance tax shield it once did. It’s a critical consideration for anyone looking to manage their estate’s exposure to inheritance tax, and, as always, careful planning and professional advice from your solicitor and independent financial adviser are essential.
- Peter McGahan is chief executive of independent financial adviser Worldwide Financial Planning, which is authorised and regulated by the Financial Conduct Authority. To register to receive a complimentary guide to inheritance tax call 028 68632692 or email info@wwfp.net
