Inheritance tax (IHT) planning is a crucial consideration for those looking to preserve their estate for their heirs. One common strategy involves gifting assets during one's lifetime to reduce the value of the estate upon death. However, this approach can be complicated by the gifts with reservation of benefit (GWROB) rules. This blog explores the intricacies of GWROB, the tax implications, and strategies to avoid triggering these rules.
What are the rules?
It's common practice for an individual to try and save IHT that would otherwise be due on the value of their assets as at date of death. One option, clearly, is to reduce the value of their estate during their lifetime before they die. This usually involves gifting away personally owned assets, either directly or indirectly, to their heirs.
However, such a method can occasionally be caught by the GWROB rules, which can counteract any tax benefit. These rules were introduced to prevent a donor from giving an asset away, but then continuing to derive a benefit from that asset. Examples of this include a parent who gifts their property to their child but continues to live in this property rent free; or a motor vehicle an individual gives away to their friend but continues to drive.
In such arrangements, the gift of the asset is said to be a GWROB by the donor.
What is the tax impact?
A GWROB is initially treated like any other gift for the purposes of lifetime IHT, being a Potentially Exempt Transfer (PET) that may be subject to IHT on the death of the donor within 7 years (a 'failed' PET). However, the key difference is that the asset will also remain in the estate of the donor, meaning a charge will arise on death regardless of when the initial gift transfer occurs.
There could, therefore, be the possibility of a 'double charge' to IHT if the donor dies within 7 years of the GWROB. In these cases, HMRC will choose to either charge IHT on the asset in the death estate, or the failed PET. They'll pick whichever option collects them the most tax.
How can this be avoided?
The GWROB rules would clearly only apply where the donor retains a benefit and therefore would not apply in the following circumstances:
- The donor pays a full market rent to the donee for use of the asset.
The market rent should be reviewed regularly, and this should be paid for perpetuity, not just for 7 years.
Of course, this would mean that the donee will be in receipt of taxable rental income and so will need to consider the income tax implications of this. For planning purposes, you would need to review the potential IHT saving compared to the expected tax cost of the rent, including the tax payable on the rent by the donee and also any tax or other implications for the donor of having to fund the rental payments.
- The donor is 'virtually excluded' from benefitting from the asset.
The word 'virtually excluded' is not defined for these purposes, but HMRC take it to mean that any benefit obtained by the donor is insignificant in relation to the gifted property. Examples given include social visits which would normally be expected in the absence of any gift by the donor; or domestic reasons e.g. baby-sitting by the donor for the donee's children, or temporary stays in the property due to medical treatment or works being undertaken at the donor's residence.
When making a gift, it's important to stay within the above guidelines so that it does not trigger the GWROB rules and deem the gift ineffective.
Please be aware that if the GWROB rules have already been triggered, the donor simply terminating the 'benefit' they're receiving from the asset won't mean that it's immediately outside of their estate. Instead, it's treated as another gift from the donor to the donee on the date that the benefit is no longer being received. The double charges provisions mentioned above may again apply.
Anything else to bear in mind?
A possibly obvious solution to avoid a GWROB would be to use cash. For instance, a mum could sell the property, gift cash to their child who then buys a new property where the mum lives. The GWROB rules would not trace the cash, thereby avoiding them. However, in these circumstances a tax charge would arise under the Pre-Owned Assets rules.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.