It is often said that Inheritance Tax is a voluntary tax, paid by those who distrust their relatives more than they dislike the tax authorities. But as the Revenue becomes ever more demanding, the balance between distrust and dislike is shifting.

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The classic way of passing on assets for the benefit of the next generation was to place them in trust, but the scope for doing this tax-effectively was reduced in the 2006 Finance Act, which extended the tax charge previously confined to discretionary trusts to include both life interest trusts and accumulation and maintenance trusts.

So, what means are now available for reducing the tax charge? First, it is still possible to transfer assets without limit of value as unconditional gifts or as transfers to bare trusts. These are known as ‘Potentially Exempt Transfers’, and they become exempt from Inheritance Tax after seven years, having meanwhile been subject to a reducing tax charge.

In addition, there are a number of exemptions which take the gifted assets out of the donor’s estate with immediate effect. Small gifts of up to £250 each can be made to a series of individuals each year and up to £3,000 given to a different person. On top of this, up to £5,000 can be given to children tax-free on marriage.

Another important exemption is available for regular gifts made out of surplus income. In order to qualify for the exemption, the gifts must satisfy three conditions. They must be regular and reasonably consistent in amount; they must be made out of income; and they must not affect the standard of living of the donor.

Anyone claiming the gifts out of income relief will need to keep meticulous records showing their income, the tax paid and their living expenses, so as to be able to demonstrate that the amount given away each year was genuinely surplus to their needs.

Certain business assets also qualify for 100% exemption if they satisfy the requirements for Business Property relief, notably that the asset must have been held for at least two years before death and that the business must be a commercial one and not an investment business.

The business vehicle can be that of a sole trader or a partnership or an unquoted company; and for this purpose ‘unquoted’ means not quoted on a recognised stock exchange. So AIM-listed shares do qualify for relief. Similarly, a property used for agriculture would qualify for Agricultural Property Relief, which again would make it eligible for 100% exemption.

Graham Thomas