How do HMRC know about gifts for my children? -Gareth Shaw

Can you please explain how the government knows how much money I am giving to my children or grandchildren?

This is a very good question and a timely opportunity to talk about the rules relating to gifts and inheritance tax.

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Nothing prohibits you from giving money or other property to your children or grandchildren, or to whomever you want.

However, the amount you give will determine whether or not inheritance tax may be payable on your entire estate upon your death, and whether any of these gifts become taxable.

Each individual can give £325,000 free of inheritance tax, up to £500,000 if your estate includes property that passes to a direct descendant (a child or grandchild).

Married and PACS couples can not only inherit the property of their deceased spouses free of inheritance, but also these allowances. This means a married couple can pass on £1million in total. Anything above these allowances is billed at 40%.

But there is more. You can give gifts of up to £3,000 a year (known as annual waivers), which can be retroactive to two years if not used in the previous year, allowing you to give £6,000 in one year tax-free.

You can make donations based on your income, as long as they are part of your normal expenses and do not impact your standard of living. You can also give wedding gifts up to £5,000, depending on the recipient, and unlimited gifts up to £250.

Any gifts that do not fall under these rules are referred to as “potentially exempt transfers”.

You will need to survive for seven years after making the gift for them to be exempt from inheritance tax. If you die within this seven-year period, the gifts are added to your estate, effectively reducing the non-taxable allowances available to you and increasing the possibility that your heirs will pay tax upon your death.

And that gets to the heart of your question – HM Revenue and Customs, the government department responsible for collecting tax, does not know when you have given a gift, or how much you have given, until you say so.

The system relies on self-reporting, not only through self-assessment tax returns when you are living and earning, but also upon death.

The process of dealing with your estate when you die is called ‘probate’, and an executor will be appointed to administer your estate – bringing together the details of your estate, your debts and ensuring that the wishes set out in your will are carried out . . Once probate is granted, the executor can begin distributing your estate.

However, to obtain probate, your executor will need to complete a form with a declaration of any gifts that have been given, so that HMRC can correctly calculate any inheritance tax payable on your estate. The executor must sign this to declare that all information is true and correct.

Penalties for non-disclosure of gifts can be high. If a gift has not been declared, any additional inheritance tax will have to be paid, as well as any fines and interest. So while you don’t necessarily have to worry about letting the government know about the donations you’re making, they will eventually find out.

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