Exempt and Potentially Exempt Transfers

Inheritance Tax is a considerable concern to many individuals particularly when one begins the process of writing a will and considering to whom your estate will be left. In these times of spiralling property prices, the number of individuals whose assets will exceed the Nil-Rate Band (frozen at £325,000 until April 2015) continues to increase. As a result, more and more people are looking for ways to minimise their Inheritance Tax (or IHT) Liabilities.

Competent IHT planning is essential if you are to ensure that the beneficiaries of your will are not going to be burdened with an unaffordable tax bill. There are numerous techniques that can be used in order to achieve this, but one of the key elements of any successful Inheritance Tax strategy is the efficient use of exempt and potentially exempt transfers.

Potentially Exempt Transfers

If you have done any research about IHT Planning, it is highly likely that you will already have come across Potentially Exempt Transfers, or PETs. These can be a highly effective way of reducing your IHT liabilities while simultaneously ensuring that your assets are passed to your intended beneficiaries.

Every individual is entitled to give 'gifts' from their estate up to a certain value every year. Currently the limit on these gifts is set at £3,000 annually. These transfers of assets from an individual to a beneficiary are exempt from Inheritance Tax, and are therefore known as 'exempt transfers'. This type of giving is particularly attractive as it means that individuals can ensure that their intended beneficiaries receive assets and, in many cases, the giver has the satisfaction of seeing the recipient draw benefit from them.

You are, of course, free to make gifts over this £3,000 threshold. However, gifts made above this limit but within the Nil-Rate Band (see the article What Is Inheritance Tax? if you are unsure about the definition of the Nil-Rate Band) are not automatically exempt. In order to be free of IHT, these transfers must satisfy a number of criteria. Whether or not this is the case is not known at the time the transfer is made, and so they are described as 'potentially exempt transfers'.

Seven Year Rule

Aside from their value, PETs must adhere to another important rule: they must be given more than seven years before the death of the giver. It is now easy to see why they are only 'potentially' exempt when the transfer is made. If the giver passes away within these seven years, however, there is still the possibility of some Tax Relief. If the death occurs between three and seven years after the gift, then 'taper relief' may apply. Under this system a sliding scale of tax relief is available for these gifts.

It is important to note that there are a number of other forms of exempt transfer. The most common of these is transfers between spouses, on which IHT is not generally due. Similarly, 'small gifts' of up to £250 may be given to any number of individuals without incurring IHT, and gifts to charitable organisations are also free of IHT, regardless of their value.