Wayne Barnett FCA | MIPW | STEP Affiliate
Potentially Exempt Transfers (PETs)
Updated: Mar 15
What is a Potentially Exempt Transfer?
Potentially Exempt Transfers (PETs) are also known as the 7-year rule. This is when there is no UK Inheritance Tax due on gifts (without any strings attached) that the donor makes if they live for 7 years after making the gift. The exception to this, however, is if the gift is made to a Trust and this could be classified as a lifetime chargeable transfer (I will cover this another time). If the donor of the gift does not survive 7 years then the gift made may be taxable on death if the gift, or the cumulative effect of previous gifting, exceeds the Nil-Rate Band allowance, which is currently £325,000. The amount of Inheritance Tax (IHT) due on the gift depends when it was given. Any gift made within the preceding 3 years before death will be taxed at the usual rate of 40%.
Gifts given 3 to 7 years before death will be taxed at a sliding scale which is known as ‘taper relief’.
The taper relief scale is as follows:
Gifts made between 3 & 4 years before death:
80% of the IHT will be payable (rate of IHT on the gift is 32%)
Gifts made between 4 & 5 years before death:
60% of the IHT will be payable (rate of IHT on the gift is 24%)
Gifts made between 5 & 6 years before death:
40% of the IHT will be payable (rate of IHT on the gift is 16%)
Gifts made between 6 & 7 years before death:
20% of the IHT will be payable (rate of IHT on the gift is 8%)
A common misunderstanding is that taper relief is applicable on any size gift if made in the preceding 7 years before death. Unfortunately, this is incorrect because the taper relief is only applicable if the donor has given away more than £325,000. This is because any gift(s) below £325,000 will be within the Nil-Rate Band allowance (IHT threshold).
There is a helpful illustration on the gov.uk website to demonstrate this: Beth died on 1 July 2018. She was not married or in a civil partnership when she died. She gave 3 gifts in the 9 years before her death:
£50,000 to her brother 9 years before her death
£325,000 to her sister 4 years and 2 months before her death
and £100,000 to her friend 3 years before her death
If we break this down:
There’s no Inheritance Tax to pay on the £50,000 gift to her brother as it was given to him more than 7 years before she died
There’s also no Inheritance Tax to pay on the £325,000 she gave to her sister, as this is within the Inheritance Tax threshold
But her friend must pay Inheritance Tax on her £100,000 gift at a rate of 32%, as it’s above the tax-free threshold and was given 3 years before Sally died. The Inheritance Tax due is £32,000.
Inheritance Tax on the Remaining Estate
Beth’s remaining estate was valued at £400,000, so the estate would pay Inheritance Tax of 40% on £400,000 (£160,000). The reason that Beth’s friend must pay the Tax is because the primary liability for the IHT will fall on the recipient of the gift. The executors of the estate only become liable if the IHT remains unpaid 12 months after the death of the Testator.
From a best practice point of view, it is advisable to make a list of these as the executors will have to disclose these upon death to HMRC. It is also important to remember that if the gifting exceeds the Nil-Rate Band allowance, it is the recipient of the gift who is responsible to pay the Inheritance Tax payable on that gift. If you wish for the estate to pay this then a clause in the Will to this effect would be advisable.
If you have any questions or need further clarification please contact Wayne Barnett by phone on 99 147650 or via email to email@example.com. Alternatively, please fill out the contact form below and we will be in touch with you promptly.