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Have you ever wondered how gifts and trusts work when it comes to taxes? Get ready to uncover some surprising details about something called potentially exempt transfers, or PETs. These secrets might change the way you think about giving gifts and setting up trusts!
1. The Big Date: 22 March 2006
This date is a game changer for PETs. Before 22 March 2006, if someone made a gift into a trust, it was often not taxed right away. But after that day, most gifts into trusts became immediately chargeable with tax. This means that if you set up a trust after 21 March 2006, you generally cannot create a new trust that gives a lifetime benefit (known as a “qualifying interest in possession”). Essentially, the rules changed so that the tax treatment for these kinds of gifts was stopped immediately.
a. Cessation of PET Treatment
After 22 March 2006, if you gave a gift to a trust that provided a lifetime benefit, it lost its PET status and became taxable immediately. There are some exceptions, but for most cases, that date marks the end of special tax treatment.
b. Termination of Qualifying Interest in Possession Trusts
If a trust that used to have a qualifying interest in possession ended after 21 March 2006, it would only then get the PET treatment on termination. This is a tiny detail but very important when dealing with trusts.
c. Lifetime Gifts Between People
Good news! Lifetime gifts from one individual to another still qualify as PETs, even after that big date. So, if someone gives a cash gift or a valuable item directly to another person, the PET rules still apply.
2. Beware of the PET “Trap”
Here’s a curious hook: what if you make a PET gift before setting up a trust and then pass away within seven years? This situation, known as the PET “trap,” can cause a lot of confusion. When the gift happens before the trust is created, and the giver dies within seven years, the tax charges need to be recalculated. Trustees must be extra careful and have enough funds saved to cover any unexpected tax liabilities.
3. Reservation of Benefit and the Deemed PET
Sometimes, a person might keep some benefits from the property they give away. If, within seven years before their death, the property stops being a benefit, it’s treated as if the person made a PET at that time. This can catch people off guard if they’re not prepared for it!
4. What Really Counts as a PET?
A key point is that a gift must become part of the recipient’s estate to count as a PET. That means if you give a gift to a company instead of an individual, it won’t be treated as a PET. For example, if Henry pays for a holiday for his brother Tom, it’s not a PET because no property actually becomes part of Tom’s estate. Instead, this gift is considered a chargeable lifetime transfer.
5. Value Drops and Taper Relief
PETs have some hidden advantages. If the value of the gift falls between the time it’s made and when the giver dies (within seven years), you can use the lower value when calculating the tax. Also, if death occurs more than three years after the gift, a system called taper relief might reduce the tax. Depending on when the death happens, the tax charge can be reduced by percentages ranging from 80% down to 20%.
6. Nil Rate Band Allocation
Finally, there’s an interesting quirk with the nil rate band—the tax-free amount that can be given. This band is used up in the order that gifts are made. For instance, if someone gives cash gifts on different days to their children, the order can affect whether the gift is taxed. In one case, one child might pay no tax while the other ends up with a 40% tax charge. Making gifts on the same day could help avoid this unfair outcome.