How ‘gifts out of normal expenditure’ works

Many people are keen to support their loved ones financially but are wary of the potential inheritance tax implications. One often-overlooked option is the ‘gifts out of normal expenditure’ rule, which can be a valuable tool for those looking to pass on wealth during their lifetime.

This rule allows you to make regular gifts from your income without them being counted as part of your estate for inheritance tax purposes. The key is that these gifts must be made from your surplus income and shouldn’t affect your standard of living.

Let’s look at an example:

Mr Smith receives a pension of £50,000 per year. After covering his living expenses of £30,000, he has £20,000 surplus income. He decided to gift £10,000 annually to his daughter to help with her mortgage payments.

To ensure these gifts qualify under the rule, we’ve recommended Mr Smith set up the following:

1. A standing order for £833.33 monthly to his daughter’s account.
2. A cashflow plan tracking his income, expenses, and gifts.
3. An annual review of his financial situation to confirm the gifts don’t impact his standard of living.

When Mr Smith passes away, his executors will need to complete the IHT403 form. They’ll use his records to show:

• The gifts were made regularly
• They came from surplus income
• Mr Smith’s lifestyle wasn’t affected

By maintaining this documentation, Mr Smith has potentially saved his estate £4,000 in inheritance tax each year, a saving of 40%.

Remember, while this rule can be beneficial, it’s just one piece of the inheritance tax puzzle. It’s always best to discuss your specific circumstances with your adviser to ensure you’re making the most of all available options.