Pass it on: how to make the most of gifts and inheritances
The rules surrounding capital acquisitions tax have changed in recent years, but there are still ways to keep your returns low
You might be fed up with the impact of years of tax increases, but it is worth remembering that the Government is not content simply to take more off you while you are alive. It’s also going after your estate.
Since 2008 the rate of inheritance and gift tax, which is known as capital acquisitions tax (CAT), has soared from 20 to 33 per cent. Historically Ireland’s rate was lower than those in other European countries and even the US, but it is now moving closer to par. The equivalent rate is 40 per cent in the UK.
It’s not just rates that are rising. Allowances, or tax-free thresholds, are falling. In 2008, the tax-free threshold was €521,208 for a child; €52,121 for a “lineal ancestor or descendant” and €26,060 for others. Now those allowances have been slashed in half. And they may yet have further to go.
There was talk before the recent budget of the Government standardising reliefs at the €200,000 level. There was also speculation that the tax rate would rise, though possibly for inheritances only and not for gifts in an effort to encourage inter-generational transfers of family wealth.
“You can never honestly say,” says Niall Glynn, a partner with Deloitte. “I wouldn’t like to think that the allowances would fall further, but I could see rates going higher.”
The other thing to bear in mind on these thresholds is that they are cumulative – you need, for instance, to tot up any inheritances or gifts received from any lineal relations since December 5th, 1991, in determining whether you have to pay any tax.
Despite the rise in rates and the fall in allowances, it has not translated into greater revenues for the Government, thanks to the dramatic fall in asset values registered over the past couple of years, as the table on this page shows.
Another change, which was introduced in 1999, means that if you come into money from someone who is non-resident in Ireland, you will have to pay tax on the sum.
Previously if an aunt or uncle in the US, for example, had given you a gift of a sum of money, you wouldn’t have had to pay any tax on it because that person was no longer domiciled in Ireland.
“In some respects, this is a little bit unfair,” says Glynn.
However, it reflects the Irish focus on the beneficiary in assessing inheritance tax rather than on the benefactor as happens in the UK.
And remember, when planning ahead, consider your own needs into the future first. “Before you give away anything, make sure you are okay yourself,” says Timothy O’Rahilly, a tax partner with PricewaterhouseCoopers (PwC), adding that people need to make sure that their wills are up to date too.
Pass wealth on now or when you die?
In some countries, there are incentives to encourage people to pass on their wealth while they are still alive. In the UK, for example, you can give assets during your lifetime and pay no tax provided you survive for seven years afterwards.
In Ireland, this is largely not the case, although it is possible to avail of the “small gift exemption” by gifting up to €3,000 in a given year to another person, free of tax.
Not only that, but you can receive such a gift from any number of people – so you could get €21,000 tax-free every year if you were lucky enough to know seven people who would gift you that kind of money.
Or, to take another example, if you have 10 children and grandchildren, you could give away €30,000 a year tax free, if you so wished.
Remember, this applies to gifts but not to inheritances and can be used alongside the aforementioned thresholds.
So, for example, if you receive a gift of €20,000 from a non-relative, the taxable amount will be €4,925 (based on “stranger” threshold of €15,075), less your annual €3,000 allowance. This means that tax will only be paid on €1,925.
If you were to get another gift from a non-relative, however, your allowance of €15,075 would already have been used up, although if it were to occur in another year, you could still avail of the €3,000 deduction.
Zurich Life has a good calculator which can help you to work out potential tax liabilities available on its website at zurichlife.ie
No matter how valuable your assets may be, your spouse will be completely exempt from inheritance tax. Same-sex partners in a civil partnership are now treated the same as the spouse because of the new changes in succession law. Co-habiting couples are not, however, which can make establishing your rights if you are a member of such a couple more difficult. Consider the other exemptions
Apart from the tax-free spousal transfer, the biggest exemptions are available for those with business interests.
“At the moment there is a big divergence,” says Glynn, noting that people who have investable wealth, rather than wealth tied up in businesses, are likely to have a greater tax liability.
“It’s a little bit disproportionate,” he says. “Where you tend to end up paying a lot of tax is where you have cash or investments to transfer.”
Business relief allows a son or daughter inheriting a family business to do so with a reduction on the amount of CGT liable, as it reduces the value of a business by 90 per cent.
So, a business that is worth €10 million is treated as being worth €1 million on death, which reduces the amount liable for tax considerably.
Passing on your business between the ages of 55 and 66 can also make sense, as full relief from CGT is granted to the disposer. However, while it is attractive, availing of this relief may not make business sense.
For Glynn, the cap on those aged over 66 is a “little bit illogical”. O’Rahilly says it’s “not good for the economy”.
Once the parent goes beyond the age of 66, the amount of assets allowable under the relief shrinks to €3 million, “which is quite low in value terms”, O’Rahilly says.
This means that it may make most sense – from a tax perspective – to wait until death to pass on the business. However this means that the child might have waited 20 years or more to inherit the business.
There are very few inter-generational transfers happening, according to O’Rahilly, despite the fact that the fall in asset values means that it can be a good time to transfer.
“People are still trying to get to grips with where they are,” he says, in terms of understanding the impact the past few years have had on their finances.
Another factor is that where there is a tax bill to be settled, people simply may not have the funds to do so, which can delay a transfer of assets.
A similar relief applies for agricultural property. It means that if certain conditions are met, then the value of the farm can be reduced by 90 per cent for inheritance or gift tax purposes. This relief can also be sought if an inheritance of cash is used to purchase agricultural land within two years of the date of the gift or inheritance.
Exemptions may also apply to the inheritance of a house if the child has been living in it prior to the death of a parent.
Insure for the future
One way of avoiding your children having to pay inheritance tax is to take out an insurance policy to cover it upon your death. Known as a Section 72 policy, this is a life product you can take out for yourself and your spouse. It is set up under a trust for your beneficiaries.
Gifts from parents
It’s coming up to Christmas time and many parents might be considering giving their children some cash to help with a deposit on a house, for example, or to help pay school fees for grandchildren, or simply because they feel like it. But should the children declare this?
As Glynn notes, there is a little bit of a grey area when it comes to the parent/child relationship, particularly with regards to smaller sums, pointing to a provision in the legislation which allows a parent to provide for education, support or maintenance of a child on a consistent basis.
He gives the example of a case of a 40-year-old with medical issues who couldn’t work, in which it was determined that it was within the spirit of this ruling for his parents to pay his mortgage without affecting his threshold or incurring a tax liability.
A larger sum, however, could attract the interest of the Revenue.
“Ultimately for larger one-off lump sums, these tend to be lifetime gifts going against allowances,” he says.
Worth noting is that if you reach 80 per cent of your threshold (eg if a child receives €180,000 from parents), you are supposed to formally declare this to the Revenue.
Similarly, as part of the probate process, you will be asked to declare and collate all previous gifts received to work out what allowances may still be left.
Filing your return
CAT is a self-assessed tax. So the onus is on you to declare it. Two filing periods apply: all gifts and inheritances with a valuation date between January 1st and August 31st will be included in the return to be filed by October 31st of that year.
For dates between September 1st and December 1st, the pay-and-file deadline would be October 31st of the following year. Returns can be filed online.
How much tax might you owe?
In 2005, Lisa received a gift of €30,000 from her grandmother. As this gift was not from a parent, the threshold of €30,150 applies. As it’s below this level, she pays no tax. However, in 2008 she receives an inheritance of €40,000 from her aunt. The above threshold again applies, but as she has already used most of it from her prior gift, just €150 can be used to offset the tax owed on €40,000, which means that almost the full amount will be levied to tax at 33 per cent, or €13,150.50.
Sarah is an only child and on the death of her parents she inherits €550,000. Under the old allowances, she would have been almost home and dry, but with her allowance cut to just €225,000, she will have to pay tax on €325,000, resulting in a tax bill of €107,250.