Inheritance Tax on gifts: lifetime gifting and the seven-year rule explained

Inheritance Tax on gifts can become relevant when an individual gives away money, property, shares or other valuable assets during their lifetime. Some gifts are immediately exempt, while others may remain relevant for Inheritance Tax (IHT) if the donor dies within a certain period after making the transfer.

Lifetime gifting can be an effective part of estate planning, but the rules are more complex than simply giving assets away and waiting seven years. The type of gift, the recipient, whether the donor continues to benefit from the asset and any available exemptions can all affect the final tax treatment.

Understanding how Inheritance Tax gifts are treated can help individuals make informed decisions, keep the right records and avoid leaving executors with unexpected tax liabilities after death. Lifetime gifting sits within the wider Inheritance Tax and estate planning framework explained in our ultimate guide to personal tax in the UK.

This guide explains the Inheritance Tax 7 year rule, Potentially Exempt Transfers, Chargeable Lifetime Transfers, the main Gift allowance for Inheritance Tax, gifts with reservation of benefit and the records that should be kept when making significant lifetime gifts.

How Inheritance Tax on gifts works

Giving an asset away during your lifetime does not always remove it immediately from consideration for Inheritance Tax.

The tax treatment depends largely on who receives the gift and whether an exemption or relief applies.

Lifetime transfers commonly fall into three broad categories:

• Exempt gifts that are outside the scope of Inheritance Tax where the relevant conditions are satisfied.
• Potentially Exempt Transfers to individuals that may become fully exempt if the donor survives for seven years.
• Immediately chargeable transfers, including certain transfers into trusts or to companies.

The value of the gift is generally assessed when it is made, although different rules can apply where the transfer is not an outright gift or where the donor retains a benefit.

What is a Potentially Exempt Transfer?

A Potentially Exempt Transfer, commonly known as a PET, is usually an outright lifetime gift from one individual to another individual.

Examples can include:

• Giving cash to an adult child.
• Transferring shares to a family member.
• Giving an investment property outright to another individual.
• Making a substantial gift to help a child buy a home.

A PET does not normally create an immediate Inheritance Tax charge when the gift is made.

If the donor survives for at least seven years after making the gift, the transfer normally becomes exempt from Inheritance Tax.

If the donor dies within seven years, the gift may need to be taken into account when the estate is administered. Despite various proposals over the years to change this system, the seven year rule still applies to IHT PETs, so it remains the key timeframe to plan around.

Inheritance Tax 7 year rule explained

The Inheritance Tax 7 year rule is central to the treatment of many lifetime gifts.

Broadly:

• A qualifying PET generally falls outside the estate if the donor survives seven years.
• If the donor dies within seven years, the gift can become chargeable.
• Earlier gifts are generally considered before later gifts when applying the available Nil Rate Band.

This means the order and timing of lifetime gifts can affect the amount of Inheritance Tax ultimately payable.

The seven-year period normally runs from the date the gift is made until the date of death.

When taper relief applies to lifetime gifts

Taper relief is often misunderstood.

It does not reduce the value of the gift itself. Instead, where the relevant conditions are met, it can reduce the Inheritance Tax charged on a failed lifetime gift where the donor dies more than three years after making it.

The broad taper percentages are:

• Death within three years of the gift: no taper reduction.
• Three to four years: 20% reduction in the tax attributable to the gift.
• Four to five years: 40% reduction.
• Five to six years: 60% reduction.
• Six to seven years: 80% reduction.
• Seven years or more: the qualifying PET normally becomes exempt.

Taper relief generally only produces a benefit where the cumulative value of relevant lifetime transfers exceeds the available Nil Rate Band so that tax is actually attributable to the gift. The Inheritance Tax nil-rate band for 2026/27 remains £325,000, and this threshold can also be applied against lifetime chargeable transfers made within a seven-year period.

A gift that falls entirely within the available Nil Rate Band does not suddenly receive an additional tax saving merely because more than three years have passed.

What is a Chargeable Lifetime Transfer?

Not every lifetime gift is a PET.

Certain transfers are immediately chargeable to Inheritance Tax when made. These are often referred to as Chargeable Lifetime Transfers (CLTs).

A common example is a transfer into many types of relevant property trust.

Transfers to companies can also fall into the immediately chargeable rules.

Where a CLT exceeds the available Nil Rate Band, lifetime Inheritance Tax may become payable at the applicable lifetime rate. Additional tax can potentially arise if the donor dies within seven years of the transfer.

The treatment of trusts is considerably more complex than ordinary gifts between individuals, so trust transfers should be reviewed before assets are moved.

Gift allowance for Inheritance Tax

Several exemptions allow individuals to make gifts without those transfers using their available Nil Rate Band.

Annual exemption

The standard Gift allowance for Inheritance Tax includes an annual exemption of £3,000 per individual per tax year.

If the previous year’s annual exemption was not fully used, the unused amount can normally be carried forward for one tax year only, subject to the relevant rules.

Small gifts exemption

Small gifts of up to £250 per person per tax year can normally be exempt, provided another exemption is not being used for the same recipient.

Marriage and civil partnership gifts

Gifts made on the occasion of a marriage or civil partnership can qualify for separate exemptions, with the available amount depending on the donor’s relationship to the recipient.

Gifts between spouses and civil partners

Most gifts between spouses and civil partners can qualify for an Inheritance Tax exemption, although additional considerations can apply where residence status differs between the parties.

Gifts to qualifying charities

Gifts to qualifying charities can generally be exempt from Inheritance Tax.

Normal expenditure out of income

One of the most useful but frequently overlooked exemptions applies to regular gifts made from surplus income.

To qualify, the gifts should broadly:

• Form part of the donor’s normal expenditure.
• Be made from income rather than accumulated capital.
• Leave the donor with sufficient income to maintain their normal standard of living.

This exemption can be particularly useful for individuals with recurring surplus income who regularly support children or grandchildren.

Unlike a normal PET, a qualifying gift out of surplus income does not need the donor to survive for seven years before it becomes exempt.

However, strong records are essential because executors may need to demonstrate the donor’s income, normal expenditure and pattern of gifts to HMRC after death.

Gifts with reservation of benefit

A major exception to the normal gifting rules applies where someone gives an asset away but continues to benefit from it.

This is known as a gift with reservation of benefit.

Examples include:

• Giving your home to your children but continuing to live there rent-free.
• Giving away a valuable painting while continuing to keep it in your home.
• Transferring an asset while continuing to enjoy its economic benefit.

In these circumstances, surviving for seven years does not necessarily remove the asset from the estate.

If the donor continues to reserve a benefit, the gifted property can still be treated as part of their estate for Inheritance Tax purposes.

This is why giving away a home while continuing to use it without appropriate commercial arrangements can fail to achieve the intended Inheritance Tax result.

Who pays Inheritance Tax on a lifetime gift?

Where a PET becomes chargeable because the donor dies within seven years, liability can depend on the circumstances.

In some cases, the recipient of the gift may become responsible for the tax attributable to that lifetime transfer.

This differs from the normal position on death, where Inheritance Tax is generally dealt with by the executors from estate funds.

Large lifetime gifts should therefore be planned with both the donor’s estate and the recipient’s future position in mind.

Keeping records of Inheritance Tax gifts

Accurate records are one of the most important practical requirements when making Lifetime gifts Inheritance Tax planning decisions.

Useful records should include:

• Date of each gift.
• Name of the recipient.
• Description of the asset transferred.
• Market value at the date of the gift.
• Any exemption claimed.
• Supporting valuations for property or shares.
• Evidence supporting a claim for the IHT exemption for normal expenditure out of income, where relevant.

Executors may need to reconstruct lifetime transfers made during the seven years before death, so incomplete records can create significant difficulties.

Worked example: lifetime gifts and the seven-year rule

Helen gives £150,000 to her daughter to help her purchase a home.

The gift is an outright transfer to an individual and, after applying any available exemptions, the remaining amount is treated as a Potentially Exempt Transfer.

If Helen survives for at least seven years after the gift, the PET would normally become exempt from Inheritance Tax.

If Helen dies within five years, the gift must be considered when calculating the Inheritance Tax position of her lifetime transfers and estate.

Whether tax is actually payable on the gift will depend on the value and timing of Helen’s other lifetime transfers and how much of the available Nil Rate Band remains.

If tax is attributable to the gift and the relevant time conditions are satisfied, taper relief may reduce that tax. The value of the original gift itself is not reduced by taper relief.

Common mistakes with Inheritance Tax gifts

Common errors include:

• Assuming every gift becomes automatically tax-free after three years.
• Confusing taper relief with a reduction in the value of a gift.
• Assuming all gifts are Potentially Exempt Transfers.
• Making gifts into trusts without considering the immediately chargeable transfer rules.
• Giving away a home while continuing to occupy it rent-free.
• Failing to use available gift exemptions correctly.
• Not keeping adequate records of lifetime gifts.
• Ignoring earlier gifts when calculating later Inheritance Tax liabilities.

Reviewing the current IHT gift reliefs before making a substantial gift can help avoid several of these mistakes at once.

These mistakes can create unexpected tax liabilities for both an estate and the people who received gifts.

Planning lifetime gifts carefully

Before making a substantial gift, it is sensible to consider:

• Whether the transfer will be a PET, CLT or exempt gift.
• Whether the donor will continue to benefit from the asset.
• The impact on the donor’s own financial security.
• Whether the asset requires a professional valuation.
• The recipient’s future tax position.
• How the gift interacts with earlier lifetime transfers.
• The records executors will need later.

Gifting purely to reduce Inheritance Tax without considering wider financial needs can create unnecessary risk. Estate planning should balance tax efficiency with the donor’s long-term financial security. Making regular gifts paid out of disposable income is often one of the safer ways to achieve this balance, since it avoids tying up capital the donor might need later.

Key takeaways

Inheritance Tax on gifts depends on the type of transfer, the recipient, available exemptions and how long the donor survives after making the gift.

The Inheritance Tax 7 year rule is particularly important for Potentially Exempt Transfers, but surviving three years does not make a gift tax-free and taper relief should not be confused with reducing the value of the transfer.

Using the available Gift allowance for Inheritance Tax, understanding gifts from surplus income and avoiding gifts with reservation of benefit can all form part of effective lifetime planning. For those considering their wider legacy, giving money to charity in your will offers a further way to reduce the estate’s overall Inheritance Tax exposure.

Keeping detailed records of Inheritance Tax gifts gives executors the information they need to calculate the estate correctly and helps reduce the risk of unexpected liabilities arising after death.