This is because any Inheritance Tax (IHT) due should be paid out of the deceased’s estate before any cash or assets are distributed to the heirs. However, the recipient is liable to income tax on any profit earned after the inheritance, such as dividends from shares and to capital gains tax on the increase in value on assets after the date of inheritance.
The main exception is if you received a gift during a person’s lifetime. These lifetime transfers are known as Potentially Exempt Transfers (PETs). These gifts or transfers achieve their potential of becoming exempt from IHT if the taxpayer survives for more than seven years after making the gift. If the taxpayer dies within 3 years of making the gift, then the IHT position is as if the gift was made on death.
A tapered relief is available if death occurs between three and seven years after the gift is made. There are insurance products such as a seven-year term assurance policy that can be used to reduce the amount of IHT due should the taxpayer pass away within seven years of making a gift.
The situation is more complicated if the person giving the gift does not fully give up control over the assets concerned. A common example is a person giving their house away but continuing to live in it rent-free. Such gifts are known as ‘gifts with a reservation of benefit’. These gifts can remain subject to IHT even if the taxpayer dies more than 7 years later.
A liability to IHT can also arise if an inheritance you receive is placed into a trust and the trust can’t or doesn’t pay any IHT due.