Gifted Homes to Children May Still Face Inheritance Tax, Expert Warns

Gifting a family home to children can be a complex strategy with significant inheritance tax (IHT) implications, especially if the parents continue to live in the property. Experts warn that such gifts are often risky and may not achieve their intended tax-saving purpose if not handled with meticulous legal and financial planning.

The Risk of Gifts with Reservation of Benefit

A primary concern arises from the concept of a 'Gift with Reservation of Benefit' (GROB). When an asset is gifted, it must be done without the donor retaining any benefit from it. If the original owners continue to live in the gifted home as they did before the transfer, they are considered to be retaining a benefit. This means that, for IHT purposes, HM Revenue and Customs (HMRC) may still consider the property part of the donor's estate, even if legal ownership has passed to the children.

To avoid a GROB when gifting a home, specific conditions must be met. This typically involves formalizing the arrangement with a tenancy agreement where the parents become tenants paying market-rate rent to their children, who act as landlords. This rent must be paid consistently and reviewed periodically to reflect market changes. The children would also need to declare and pay tax on this rental income at their marginal tax rate. Failure to adhere to these requirements, such as ceasing to pay market rent at any point, can trigger the GROB rules, potentially restarting the seven-year IHT clock from the date the payments stopped.

Pre-Owned Asset Tax and Residence Nil Rate Band

Beyond GROB, another potential pitfall is the Pre-Owned Asset Tax (POAT). This can apply in scenarios where, for example, a property is sold, the proceeds are gifted to children, and the children then purchase a new home for the parents to live in. POAT is an annual charge on the value of the asset.

The Residence Nil Rate Band (RNRB), an additional IHT allowance of up to £175,000 per person for those leaving their main residence to direct descendants, can also be affected. To qualify for the RNRB, the property must be included in the deceased's estate and left to direct descendants. Properties in which the deceased never lived do not qualify for this allowance.

Reversing the Gift: Potential Tax Consequences

If the decision is made to reverse the gift and transfer ownership back to the parents, further tax liabilities can arise. While Private Residence Relief (PRR) might apply if the property was the main residence at the time of the initial gift (and it qualified as a PET), the subsequent transfer back to the parents would be considered a PET from the children's estate. If the property is not the children's main residence, Capital Gains Tax (CGT) may be payable on any increase in value since the original gift. Stamp Duty Land Tax could also be applicable.

Advice for Gifting Property

Experts strongly advise seeking professional legal and estate planning advice before gifting significant assets like a family home. The specific circumstances of ownership (e.g., joint tenants versus tenants in common), the terms of any will, and adherence to the strict rules for PETs and avoiding GROBs are crucial. Without careful planning and execution, gifting a home could inadvertently lead to higher inheritance tax bills and other tax complications for both the parents and their children.