Mark McLaughlin highlights a relatively easy strategy to save inheritance tax over time.
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For more in depth discussion on this important area of inheritance tax, please see our new tax report ‘Inheritance Tax: Key Strategies And Insights Explained. Save 40% Today.
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The acronym ‘KISS’ (‘keep it simple, stupid’) refers to a design principle originating from the US Navy in 1960. However, it can sometimes be an apt principle in an inheritance tax (IHT) context!
Some taxpayers engage in sophisticated planning arrangements to reduce the possible IHT liability of 40% on their death estate. However, with a little forward planning, a relatively simple strategy can achieve significant results.
PETs and the seven-year rule
Take, as an example, straightforward lifetime cash gifts by a married couple (or civil partners) to family members. There are three basic components of this IHT planning strategy.
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Potentially exempt transfers
An outright lifetime gift of cash from one individual to another is a potentially exempt transfer (PET). A PET is assumed to be exempt from IHT when made, and it becomes exempt if the donor survives for at least seven years.
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Annual exemption
A transferor’s lifetime transfers are IHT exempt up to £3,000 per tax year (for 2026/27). Any unused part of the annual exemption can be carried forward, but only into the next tax year.
Even though a PET is assumed to be exempt when the gift is made, HM Revenue and Customs (HMRC) considers that any available annual exemption should be allocated against the PET when made (see HMRC’s Inheritance Tax Manual at IHTM04024).
If the donor dies within seven years, the PET becomes chargeable to IHT at the date of gift, and for annual exemption allocation purposes is deemed to have been made later than any non-PET (e.g., a lifetime gift to a discretionary trust) also made in that tax year (IHTA 1984, s 19(3A)(b)). However, let us assume that the only gifts are PETs.
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Nil-rate band
IHT is broadly a cumulative tax charge on chargeable (i.e., non-exempt) transfers made by the individual within the seven-year period before death, and on the value of their death estate.
However, where chargeable lifetime transfers and the individual’s death estate do not exceed the IHT threshold (or nil-rate band), there is no IHT liability. Every individual is entitled to a nil-rate band (£325,000 for 2026/27).
Unused nil-rate band on the death of a spouse (or civil partner) can be transferred to the survivor, but it is assumed here that both spouses wish to fully utilise their nil rate bands.
It all adds up…
Returning to our example of a married couple gifting cash to family members, over a period of just over seven years it can be possible to give away £1,354,000 between them. This is made up as follows (assuming the annual exemption and nil-rate band remain unchanged):
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Spouse 1 makes cash gifts of £325,000 in years 1-7.
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Spouse 1 makes cash gifts of £3,000 per annum in years 1-7 (i.e., £21,000 in total).
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Spouse 1 in this example has unused annual exemption of £3,000 brought forward.
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Spouse 1 makes a gift of an amount equal to the nil rate band (£325,000) plus annual exemption (£3,000) in year 8 (i.e., £328,000 in total).
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Spouse 2 repeats (a) to (d) above (i.e., £677,000 in total).
The possible IHT saving in the above example is £541,600 (i.e., (£677,000 x 2) x 40%).
However, the above is a simplified example; seek professional advice if necessary.
Practical tip
Only give away what you can afford; don’t let the tax tail wag the lifestyle dog.
