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Inheritance Tax Annual Exemption

4 min read 28 Feb 22


What you need to know about the annual £3,000 exemption for Inheritance Tax  (IHT) purposes.

  • Transfers are exempt from IHT up to a total of £3,000 in each tax year.

  • For gifts on different days in the same tax year, the annual exemption is applied in date order.

  • For multiple gifts on the same day the exemption is apportioned between them.

  • Any part of the annual exemption which is not used in the tax year is carried forward into the following tax year.

An individual's lifetime transfers are exempt up to a total of £3,000 in each tax year.

The level of this “annual exemption” has remained unchanged since 1981.

The relevant legislation is comprised in the Inheritance Tax Act 1984 section 19.

If a transfer of value is more than the amount of the available exemption:

  • it is an exempt transfer up to the amount of the available exemption

  • the excess is the chargeable amount of the PET or immediately chargeable transfer

If the transfer qualifies for agricultural relief or business relief the annual exemption is deducted from the value transferred after reliefs have been granted.


Example of the annual exemption interacting with Business Property Relief (BPR)

Arthur makes a lifetime transfer of factory premises to the trustees of a discretionary trust. The property is valued at £300,000.

The transfer qualifies for 50% BPR.

The only exemption available is the annual exemption for the year.

The amount of the immediately chargeable transfer is:

Loss to estate £300,000
BPR @ 50% (£150,000)
Value transferred £150,000
Annual exemption (£3,000)
Chargeable transfer £147,000

If the transferor has made transfers to more than one person on different days in the same tax year, then the annual exemption is applied “in date order”.

For example, on 1 July 2022 Bert gave £4,000 to Brenda. On 2 August 2022 Bert gave £8,000 to Bronwen. Bert died on 1 December 2022.

All of the annual exemption is applied against the gift to Brenda made on 1 July 2022.

If the transferor has made transfers to more than one person on the same day the exemption is apportioned between them.

For example, Colin makes transfers of £4,000 to Cora and £8,000 to Clare on 3 September 2022. The annual exemption is apportioned as follows;

  • 4,000 ÷ 12,000 x £3,000 = £1,000 applied to the transfer to Cora

  • 8,000 ÷ 12,000 x £3,000 = £2,000 applied to the transfer to Clare

Any part of the annual exemption which is not used in the tax year is carried forward (rolled-over) into the following tax year. It can only be carried forward to the next year and cannot be used in any later years. The annual exemption is applied in the following order

  • current year

  • any part of the previous year's annual exemption not used in that year


Example of the one year carry forward rule

Xavier makes the following gifts:

  • 1 March 2021                    £1,600 to Lynne

  • 2 June 2021                        £2,200 to Laura

  • 3 July 2022                          £5,000 to Lucy

2020-21

The gift of £1,600 is wholly covered by that year’s annual exemption.  £1,400 is carried forward to 2021-22.

2021-22

The gift of £2,200 is wholly covered by the current year’s annual exemption. The unused balance of £800 is carried forward to 2022-23. The surplus of £1,400 brought forward from 2020-21 is not used and so is “lost”.

2022-23

The £3,000 for the current year and £800 carried forward from 2021-22 are available. Of the £5,000 gift, £3,800 is exempt. The balance of £1,200 is a potentially exempt transfer.

Attempts are sometimes made to exploit the annual exemption:

  • Transferring assets by way of sale, leaving the sale price unpaid and treated as a loan by the transferor which is then written off, year by year, utilising the annual exemption, and/or

  • annual transfers of portions of an asset - the portions being equal in value to the annual exemptions

HMRC will challenge such strategies in worthwhile cases. In most cases the costs of setting up and operating these arrangements outweigh the potential tax savings.