IHT on Gifts to Children UK (2026): The 7-Year Rule, Exempt Gifts and What Actually Triggers Tax

Gifts to children are generally 'potentially exempt transfers' (PETs) under IHTA 1984 s.3A. A PET is a gift from an individual to another individual. It is potentially exempt — it becomes fully IHT-free if the donor survives 7 years from the date of the gift. Here is how the 7-year rule works: (1) GIFT MADE — CLOCK STARTS: when a parent makes a gift to a child (cash; investment; property outright), the 7-year PET clock starts on the date the gift is made; (2) DONOR SURVIVES 7 YEARS: the PET falls out of the donor's cumulation entirely. No IHT. No return to HMRC. The gift is fully exempt; (3) DONOR DIES WITHIN 7 YEARS — THE PET BECOMES CHARGEABLE: the PET is added back into the calculation. It is assessed against the NRB in the order it was made (FIFO — oldest gifts first). Two outcomes: (a) if the PET falls within the available NRB: the NRB absorbs it and no IHT is charged on the PET itself — but the NRB is eaten up, leaving less available against the estate at death; (b) if the PET exceeds the available NRB: IHT is charged on the excess at 40%, REDUCED by taper relief; (4) TAPER RELIEF ON FAILED PETS: if the donor dies 3–7 years after the gift, taper relief reduces the IHT on the failed PET: 0–3 years before death: 100% of IHT (no reduction); 3–4 years: 80% of IHT; 4–5 years: 60%; 5–6 years: 40%; 6–7 years: 20%. IMPORTANT: taper relief reduces the IHT charged on the PET — it does NOT reduce the value of the gift or the NRB it consumes. A PET of £500,000 made 6 years before death still consumes £175,000 of NRB (after applying current NRB); only the IHT on the excess is tapered; (5) WHO PAYS IHT ON A FAILED PET: the recipient of the gift (the child) is primarily liable for any IHT on the failed PET (IHTA s.199). If the child cannot pay, the liability falls to the estate. In practice, large PETs (e.g. property transferred to children 5 years before death) can create significant IHT liabilities for the recipients.

Several categories of gift are immediately exempt from IHT — they use no NRB and start no 7-year clock: (1) ANNUAL EXEMPTION — £3,000 PER DONOR PER TAX YEAR (IHTA 1984 s.19): each individual can give away up to £3,000 per tax year (April to April) completely free of IHT. Key rules: (a) the £3,000 can go to one person or be split among multiple recipients; (b) if not fully used in a tax year, the UNUSED balance can be carried forward ONE year only (not cumulative). Example: if £1,500 used in 2024/25, the unused £1,500 can be added to the 2025/26 annual exemption giving £4,500 in that year — but only for one year. For a couple: £6,000/year combined; (2) SMALL GIFTS EXEMPTION — £250 PER RECIPIENT (IHTA 1984 s.20): gifts of up to £250 to any number of different individuals in a tax year are exempt. CRITICAL: (a) the small gifts exemption CANNOT be combined with the annual exemption for the same person — if you give £3,000 to your son using the annual exemption, you cannot also use the small gifts exemption for him; (b) the £250 limit is per recipient per year — 50 × £250 = £12,500 exempt per year (one £250 gift to each of 50 different people); (3) WEDDING/CIVIL PARTNERSHIP GIFTS (IHTA 1984 s.22): gifts on the occasion of a marriage or civil partnership are exempt up to: parent to child: £5,000; grandparent to grandchild: £2,500; between the couple: £2,500 to each other; any other person: £1,000. Must be made on or shortly before the occasion. A post-wedding gift does not qualify; (4) NORMAL EXPENDITURE OUT OF INCOME (IHTA 1984 s.21): the most powerful and unlimited exemption. A gift is exempt if: (a) it is made as part of the donor's normal expenditure; (b) it is made from the donor's income (not capital); (c) after making the gift, the donor is left with sufficient income to maintain their normal standard of living. Examples: regular monthly payments to children; paying grandchildren's school fees by standing order; regular top-ups to a grandchild's ISA; gifting surplus pension income regularly. No upper limit — large regular gifts from high income/pension are fully exempt if the three conditions are satisfied. Evidence: HMRC form IHT403 is used to claim this exemption on the estate. Detailed records of income and expenditure are essential; (5) GIFTS TO CHARITY (IHTA 1984 s.23): any gift to a qualifying charity is exempt — no limit, no 7-year requirement.

The gift-with-reservation-of-benefit rule (Finance Act 1986 ss.102-102C) is one of the most important anti-avoidance rules in IHT planning. It applies when a donor gives away an asset but continues to benefit from it: (1) THE RULE: if a person makes a gift and reserves a benefit (continues to enjoy the asset in some way), the gift is NOT a PET — the asset remains in the donor's estate at death as if the gift was never made. The 7-year PET clock does not run. IHT is calculated at death on the full value of the asset (at death value) as part of the donor's estate; (2) CLASSIC EXAMPLES WHERE THE RULE APPLIES: (a) giving the family home to children but continuing to live in it rent-free: the parent has reserved a benefit. The home remains in the parent's estate at death. Many families attempt this to escape both IHT and care fees — it fails on both counts (IHTA s.102 for IHT; Care Act 2014 for care fees); (b) creating a trust but retaining the ability to benefit (e.g. settling assets into a trust with the power to revoke or receive income); (c) gifting a painting to a child but keeping it on the wall; (d) gifting a car but continuing to drive it; (3) WHEN THE RULE DOES NOT APPLY — THE FULL MARKET RENT EXCEPTION: if the donor pays full market rent to the recipient for continuing to use the asset, the reservation of benefit is ended. A parent who gives the family home to children and then pays them full market rent each month removes the reservation and starts the 7-year PET clock from the date full rent payments began. However: (a) the children pay income tax on the rent received; (b) the arrangement must be commercially realistic; (c) the rent must keep pace with market values; (4) DE MINIMIS EXCEPTION: where the benefit reserved is so negligible as to be ignored (HMRC guidance: incidental stay for under 2 weeks per year in a gifted holiday home may be ignored in certain circumstances); (5) INTERACTION WITH PRE-OWNED ASSETS TAX (POAT): even where the reservation of benefit rules do not technically apply, HMRC may charge a pre-owned assets tax income tax charge (Finance Act 2004) on the annual benefit the donor derives from the gifted asset — a lesser but still significant anti-avoidance weapon.

Here is a step-by-step worked example showing how failed PETs and the NRB interact: FACTS: a father (not married at death) made the following gifts to his children: Year 1 (January 2017): PET of £200,000 cash to daughter; Year 5 (March 2021): PET of £150,000 cash to son. He dies in June 2026. His estate at death is £400,000 (savings and personal possessions — no property). NRB in 2026 = £325,000. No RNRB (no qualifying residential property). No TNRB (not married). No CLTs in last 7 years. (1) IDENTIFY WHICH GIFTS ARE IN THE 7-YEAR WINDOW: from June 2026 going back 7 years = June 2019. Year 1 gift (January 2017) — OUTSIDE the 7-year window. PET of £200,000 is exempt — no IHT, no NRB used by this gift. Year 5 gift (March 2021) — WITHIN the 7-year window. Failed PET = £150,000; (2) CALCULATE NRB REMAINING FOR ESTATE: Step: take the NRB £325,000. Deduct failed PETs within 7 years in FIFO order. Only one failed PET = £150,000 (the March 2021 gift). NRB remaining = £325,000 − £150,000 = £175,000; (3) CALCULATE IHT ON THE ESTATE: estate £400,000 − available NRB £175,000 = taxable amount £225,000. IHT at 40% = £90,000; (4) CALCULATE IHT ON THE FAILED PET: the March 2021 PET of £150,000 falls entirely within the NRB (£325,000 at the time of death), so no IHT is separately charged on the PET itself — the NRB fully absorbs it. The only effect is reducing the NRB available against the estate; (5) TAPER RELIEF ON THE FAILED PET: the father died in June 2026, and the March 2021 gift was 5 years 3 months before death. That falls in the 5–6 year band → 40% reduction. But since there is no IHT charge on the PET itself (it is within the NRB), taper relief has no effect in this example; (6) TOTAL IHT: £90,000 to be paid from the estate. If the father had NOT made the Year 5 gift (keeping £150,000 as part of the estate): estate £550,000 − NRB £325,000 = taxable £225,000 → IHT still £90,000. In this case the gift had no net IHT benefit — the PET ate the NRB which would have been used by the estate anyway. This illustrates that PETs are most beneficial when the estate would otherwise exceed the NRB by MORE than the gift; (7) IF THE GIFT HAD BEEN MADE 8 YEARS BEFORE DEATH: PET outside 7-year window → exempt; full £325,000 NRB available against the estate; estate £400,000 − NRB £325,000 = taxable £75,000 → IHT only £30,000. The 7-year timing is everything.

The normal expenditure out of income (NEOI) exemption under IHTA 1984 s.21 is the most powerful IHT gift exemption for parents with surplus income because it is unlimited and immediately exempt: (1) THE THREE CONDITIONS (ALL MUST BE MET): (a) NORMAL EXPENDITURE: the gift must be part of the donor's habitual, regular expenditure. It must be part of a pattern of giving — a standing order; regular monthly or annual payment; consistent level of giving. A single one-off payment may not qualify; (b) OUT OF INCOME: the gift must come from income — earned income, pension income, investment income, dividends, rental income. It must NOT come from capital (selling investments; drawing down savings). The test is at the time of each payment; (c) SUFFICIENT INCOME RETAINED: after making the gift, the donor must retain enough income to maintain their own standard of living. They must not need to draw on capital to fund their lifestyle; (2) WHAT QUALIFIES IN PRACTICE: (a) a grandparent paying school fees for grandchildren by standing order (£15,000/year from £80,000 pension income); (b) a parent making regular monthly gifts to a child's current account from high earned income; (c) regular ISA top-ups for grandchildren; (d) payment of annual life insurance premiums on a policy under trust for children; (e) regular holiday gifts funded by investment income; (3) AMOUNTS: there is NO limit on the amount of the NEOI exemption — it is limited only by the donor's surplus income. A parent with surplus pension and investment income of £50,000/year above their living costs could give £50,000/year completely IHT-exempt; (4) EVIDENCING THE EXEMPTION: HMRC requires detailed evidence on the death estate return: HMRC form IHT403 asks for a full schedule of the donor's income and expenditure for each year of giving, showing: gross income; all personal expenditure; gifts made; and that gifts came from surplus income after expenditure. Without good records, the exemption can be challenged. Keep: bank statements; tax returns; regular standing order records; notes of the pattern and purpose; (5) KEY PLANNING POINT: the NEOI exemption is underused because donors do not set it up in a systematic, documented way. A well-structured regular giving programme from income — backed by records — can shelter tens of thousands of pounds per year from IHT entirely outside the NRB and annual exemptions.