Does Income you dont draw count?

pip895

Our estate is well over the IHT threshold - we have been advised to gift up to our allowance each year as a starting point. This is presumably predominantly £3k + what isn't spent out of income.

Working out what our income is, is throwing up a few queries. If you had a FS pension or an annuity then it would be straight forward. But what if you have SIPPs & ISAs

We are currently living of 1. Unwrapped Investments/cash reserves + a little rental income + State pension. Once the unwrapped investments are gone/moved to isas we will start drawing from the ISA + just enough from the SIPP to use up our tax allowance. Does this mean that we are restricted to giving away only £3000 per year or can some account be taken of the growth of the ISAs and SIPPs?

Our net worth is going up year on year in retirement, and we would like to give some of this uplift to our Daughter but it would seem because of our choice of retirement vehicle it will end up as a PET(potentially exempt transfer) rather than forming part of any allowance. Is there any way round it? Can some account be taken of potential income or investment growth within an isa?

maximumgardener

Hi

the trick here is to ensure that you live for minimum 7 years !

then anything you gift to your daughter can be IHT free

start gifting asap?

xylophone

https://www.pruadviser.co.uk/knowledge-literature/knowledge-library/normal-expenditure-out-of-income-exemption/

may help.

SonOf

Does this mean that we are restricted to giving away only £3000 per year or can some account be taken of the growth of the ISAs and SIPPs?

Pensions are outside of the estate. ISAs are within it. So, as you have an estate issue, you would use the ISA before the pension (or unwrapped before those). There are caveats and exclusions that apply in some scenarios.

There is no point drawing money out of the pension to then gift it.

In addition to the gift allowance, you have gifts from income and the 7 year rule outside of those. There is also the potential for life assurance in trust.

Malthusian

SIPPs are free of Inheritance Tax anyway. So drawing money which is already IHT free, paying income tax on it and then giving it to your child would be eccentric if it's purely for IHT purposes. It may be exempt from IHT under the surplus income rule, but the income tax payable usually means there is no tax benefit. They may as well inherit the pension and pay income tax (if you die after age 75) if they need to.

If your children would pay a higher rate of tax on the pension than you would, then I would ask whether they are the best choice for beneficiaries - maybe skipping a generation would be better.

If of course the motivation is not to reduce IHT but to enjoy watching them benefit from the money now rather than after your death, there's no reason not to. Worst case scenario is they pay IHT they would have paid anyway.

Capital growth isn't income and withdrawing money from an ISA and giving it to your child doesn't qualify for gifts out of regular income relief.

Getting the natural dividend income paid out to you and then giving that away might qualify as gifts out of surplus income, but when we are this far down the rabbit hole you really should take regulated advice from an IFA or solicitor rather than people down the pub.

You can also ask a regulated IFA about investments which qualify for Business Property Relief.

There are usually much better ways of managing IHT liability than trying to push the boundaries of the gifts out of regular income rule. Remember that if you get it wrong, it's your heirs you land in the dungheap with HMRC.

xylophone

You might also consider taking professional advice.

https://adviserbook.co.uk/

When the menu comes up on the left, Tick "confirmed independent" and such other specialisms as are required (Inheritance/tax and trust/pensions etc).

pip895

xylophone wrote: »

You might also consider taking professional advice.

I intend to, but it always pays to have an idea on the options before hand.

Looking into it more, I think for us gifts out of income are probably not going to be useful. Holding on to/maximising our Sipps is probably the way to go. I need to get my head round it, but I think it will still be worthwhile to draw down enough to at least use up all our tax allowance + adding £3600 into the pension each year up to age 75, at least providing the lifetime allowance remains a distant threat.

We will also look into PETs - but as our offspring are not yet at the house purchasing stage we might need to wait a bit. Is it still considered a no no (in MSE terms) to buy out or displace the student loan? Looking at the rules on gifts I think payments to support a student and perhaps even pay tuition fees might be within the rules of exempt transfers.

DT2001

A relative of mine who was on the cusp of the IHT threshold, after advice, moved their ISA’s into funds aimed at producing income. This was paid into a separate account to ease the production of figures (if needed by HMRC in the future) to support any payments being out of surplus income. Maybe when your unwrapped investments have gone this would work.
One benefit has been a reduced growth in net worth.
OP talks about help with property but presumably that would be mortgage payments if from excess income or PET for deposit.
If you could generate surplus income from ISA’s maybe you could ‘do’ a help to buy ISA for your daughter.
A few options so advice will be needed specific to your circumstances.

ukdw

pip895 wrote: »

If you had a FS pension or an annuity then it would be straight forward.

Looking at xylophone's link https://www.pruadviser.co.uk/knowledge-literature/knowledge-library/normal-expenditure-out-of-income-exemption/

A couple of points I found most interesting:

"Income is the net income after payment of income tax." -

which would imply that income within the SIPP that hasn't actually been drawn down may well not count.

"Areas to be aware of? The capital element of a purchased life annuity is not regarded as income for the purposes of the exemption." -

This point was quite surprising but does make sense. I wonder if this principle also applies to any parts of drawdowns that come from capital or capital growth too?

Malthusian

ukdw wrote: »

which would imply that income within the SIPP that hasn't actually been drawn down may well not count.

If you haven't drawn it down you can't have given it away so it definitely doesn't count.

In most scenarios, taking income from a SIPP has no net IHT benefit, even if no IHT is payable, because you pay income tax to withdraw it that your heirs would eventually have paid anyway. Worst case is that you pay IHT as well, or you die before 75 and pay tax on money your heirs could have got without tax.

In the only obvious case with a potential tax saving - your heirs are in a higher tax bracket than you and expect to remain there - it might make more sense to skip a generation to heirs who aren't so loaded.

Or even leave pensions to less well-off children and the IHT-able estate to the higher-rate-taxpayer ones. For pensions the rate of tax you pay to inherit depends on the inheritee's tax position, whereas IHT is paid by the estate and doesn't. (This is an esoteric solution which would need great care and professional advice, both for you before death and your heirs after it.)

All of this doesn't mean that it's a bad idea to accelerate your children's inheritance and enjoy their gratitude while you are still alive. It just means there may not be an IHT benefit.

pip895

ukdw wrote: »

I wonder if this principle also applies to any parts of drawdowns that come from capital or capital growth too?

I did wonder about this as well - It seems a very grey area - You could chose to deplete a SIPP very quickly - mind you as SIPPs are currently outside your estate for IHT purposes and with the income tax you would end up paying...

One concern I have is how secure the status of SIPPs are as being outside the estate - will this very useful provision survive long term ?