There has been a lot of talk about Inheritance Tax since the new Labour Party government's Autumn Budget. The main change was that the new Labour government removed the long-standing inheritance tax break (the heavy relief) that previously meant that family farms were largely passed on tax‐free. Under their changes, if a family farm is valued at more than about £1 million when it is inherited, it must now pay a 20 percent inheritance tax on the amount above the threshold. This was a blow to the agricultural community and many decried the change.
However, it was a something that affected only farmer? - now there are rumours of a change to IHT, which could affect more broadly... the seven-year gift rule.
For decades, the seven-year gift rule has served as a bedrock of estate planning, allowing individuals to gift portions of their wealth without immediate tax consequences... provided they live for at least seven years after making the gift. However, the rumour circulating is that in the Spring Statement we could see dramatic changes to this established rule, as Rachel Reeves looks for more ways to boost tax revenue.
Right now the IHT rules exempt any assets gifted more than seven years before an individual’s death, from tax. Known as Potentially Exempt Transfers (PETs), these lifetime gifts were designed to encourage the gradual transfer of wealth and reduce the tax burden on an estate. If a person gifts assets and survives the following seven years, those gifts are completely removed from the estate’s value for IHT purposes.
However... if the donor dies within that seven-year window, the gift becomes liable for IHT. The tax is calculated on the value of the gift with a sliding scale known as "taper relief". This relief means that if a donor dies between three and seven years after making a gift, the tax liability on that gift is reduced incrementally. For gifts made within three years of death, the full IHT charges apply, acting as a significant deterrent to last-minute wealth transfers. Over time, the taper relief is intended to reward early gifting and provide a clear incentive for long-term estate planning.
Recent financial data illustrate that IHT receipts have been on a strong upward trajectory. Between April and December 2024, revenue reached around £6.8 billion in a mere eight-month period, a significant increase compared to previous years. This surge indicates that the existing framework is already capturing more assets, yet the government believes it could further optimise revenue collection in light of the rising value of estates and property prices.
Proposals to tighten the generosity of the seven-year gift rule are seen as a way to plug the widening treasury gap, due to rising public expenditure. Modifying inheritance tax reliefs stands as a logical, albeit controversial, policy option.
So, what's possibly going to happen?
Several high-profile reports have pointed to a potential re-evaluation of the seven-year rule. The core rumour is that Chancellor Rachel Reeves may propose one of two scenarios during the next Budget:
- Abolishing the Rule Entirely: By removing the grace period for lifetime gifts, any asset transferred while the donor is still alive would be immediately factored into the estate for IHT purposes. Such a radical change could lead to a significant increase in tax liabilities for estates, particularly those that have traditionally relied on early gifting as a method to minimise their tax base.
- Extending the Rule to 10 Years: The government might opt merely to extend the current period from seven to 10 years. While this may appear less drastic than a wholesale abolition, an extended waiting period would still drag more estates into the tax net. By requiring people to wait longer before their gifts are exempted, the government would likely see an uptick in IHT collections, especially among those who have made more recent transfers.
Now, though this is currently just crystal ball predictions, the fact that many sources are having the discussion itself is influential enough to affect behaviour among estate planning professionals and their clients, many of whom are already making preemptive adjustments to their wealth transfer strategies.
The historical predictability of the seven-year rule has allowed families and advisers to construct detailed estate plans. These plans often involve significant lifetime gifting, trust arrangements, and careful timing of asset transfers—all contingent on the expectation that the seven-year rule remains unchanged.
Should the government move to alter the rule, several immediate consequences could follow:
- Disruption of Long-Term Planning: Families that have structured their portfolios around the seven-year exemption would need to adjust their strategies. High-net-worth individuals who count on predictable tax planning measures to protect family wealth would be in a pickle.
- Increased Complexity in Gift Timing: An extension to 10 years, if that's the way it goes, would force advisers and clients to rethink the timing of their gifts. Every planned transfer would require recalculation under the new rules, with greater emphasis on ensuring that donors survive the extended period to qualify for full exemption.
- Potential for a Rush to Gift Assets: In anticipation of these changes, there is already evidence that more people are accelerating their gifting schedules. Wealth managers have reported a surge in consultations as clients become anxious about locking in the generous conditions currently provided by the seven-year rule.
- Broader Impact on Financial Advice Services: The expected changes may also spur additional demand for professional financial advice, tax planning recalculations, and the use of sophisticated tax calculators. Tax planning tools will need to update their models and scenarios to accommodate the new timelines—which could, in turn, influence online resources and digital calculators used by the public. We'll be addressing this for you in the near future - watch this space!
Industry watchdogs and think tanks have criticised the potential changes for being both "draconian" and "disruptive" in a way that could have long-term adverse effects on financial confidence and investment.
The government is under considerable pressure to bridge the £22 billion hole they declared is in public finances. The rising IHT receipts, alongside growing demands for fiscal reform in other areas such as the residence nil-rate band and business reliefs, paint a picture of a Labour government poised to use tax policy as a lever to stabilise its revenue streams.
Chancellor Rachel Reeves, already under intense scrutiny for her proposed measures with other taxes, now faces the added challenge of potentially reshaping one of the earliest established rules in inheritance tax.