Cut Your IHT Bill With a Discounted Gift Trust

Inheritance Tax (IHT) is an issue affecting a constantly growing number of people. Although the effects on property prices have reduced the number of people currently caught within the IHT net, as house values begin to increase again many thousands of households are likely to find their wealth threatened. As such, many individuals are looking for means by which their potential IHT bill can be reduced.

The government has been traditionally harsh on IHT reduction measures – as one would expect, given that they take a fairly dim view of tax avoidance generally. However, in a rare bout of charity, HM Revenue and Customs (HMRC) has recently announced that plummeting interest rates have meant individuals can put more aside in Discounted Gift Trusts – a popular and efficient means of saving assets from Inheritance Tax.

What is a Discounted Gift Trust?

Discounted Gift Trusts (DGTs) are designed for those who wish to put assets aside in order to minimise their IHT bill but, at the same time, need to draw some sort of income from their capital. With other trusts, in cases in which the settlor (that is, the individual establishing the trust) continues to benefit, the income derived is heavily taxed. However, as a result of falling interest rates and on the back of HMRC’s announcement, settlors will now be able to place 13% more in a Discounted Gift Trust without incurring an Inheritance Tax liability. Furthermore, the part of the assets in the DGT subject to Inheritance Tax will be reduced by up to 20%.

Discounted Gift Trusts are useful for those who have significant cash savings, or who have sold a large asset and therefore have some money to put away. For many people, however, their cash savings are a significant part of their retirement plan – used to supplement the state pension or an occupational Pension Scheme. A DGT allows the individual to continue to benefit from their assets, while effectively separating them from the estate and therefore minimising any potential Inheritance Tax Liability.

How Much is Tax Free?

Not all of the assets in a DGT will be free from IHT. Rather, HMRC will look at the sum invested, and consider various factors about the settlor, such as life expectancy and the amount of income you wish to withdraw. Having investigated these factors, the taxman will then decree that a certain percentage of the cash placed in the DGT ‘wrapper’ will be separated from your estate. This will incur no IHT liability.

Depending on the nature of the trust, as determined in the trust instrument, the DGT may be considered either a potentially exempt transfer or a chargeable lifetime transfer. Potentially exempt transfers arise when the DGT takes on the characteristics of a bare trust, and will only be exempt from IHT in the event that the settlor lives for a further seven years. A chargeable lifetime transfer arises when the DGT is a discretionary trust, and the trustees have significant choice regarding the disbursement of the assets.

Discounted Gift Trusts are a complex part of the fight against Inheritance Tax, so you should always seek professional advice before establishing one.