Busting Myths When It Comes To Gifts in the UK and the US
The US and the UK are not only separated by the vast Atlantic Ocean but also by differences in cultural issues and, importantly for this article, to tax and accounting issues as well. In this article we will explore the common myths when it comes to gifting and compare the tax implications in both countries. To start with let’s be clear on what both the HMRC and IRS define as Gifting.
What is Gifting?
According to HMRC, “For tax purposes, a gift is anything of value that you give to someone else. It includes money, physical possessions and property. Annual allowance: Every UK citizen can give away up to £3,000 every year without it being added to the value of their estate” HMRC
According to the IRS, “What is considered a gift? Any transfer to an individual, either directly or indirectly, where full consideration (measured in money or money’s worth) is not received in return.”
Myth 1: Gifts to my spouse will always pass free of tax
It is not the case that gifts to spouses and civil partners are completely exempt from transfer taxes in both jurisdictions. Gifts may be taxable where there is a mismatch in the tax status of the donor (the person making the gift) and the donee (the person receiving the gift).
UK
In the UK, there is generally an unlimited exemption from inheritance tax (“IHT”) on gifts between spouses and civil partners. However, where assets pass from a UK domiciled (or deemed domiciled) spouse to a non-UK domiciled spouse, the exemption is limited to just £325,000. Gifts in excess of this will be subject to tax in the same way as gifts made to any other individual.
There is an option for the non-UK domiciled recipient spouse to elect to be treated as domiciled for IHT purposes (in order to access the unlimited exemption) but this would also have the effect of bringing their non-UK assets within the scope of IHT, which may not be desirable. This will need to be considered carefully, on a case-by-case basis.
US
In the US, there is also an unlimited marital deduction from gift and estate tax on transfers to spouses in most cases. However, this will not be available where the donee spouse is not a US citizen. In that scenario, tax-free transfers in lifetime are limited to $175,000 annually (in 2023). In order to access the marital deduction from estate tax on death, assets have to be left to the non-US spouse in a special type of marital trust, known as a “QDOT”.
Myth 2: Gifts to charity will always pass free of tax
UK
In the UK, in order for a gift to charity to qualify for the charitable exemption from IHT, the recipient entity must not only be operating for ‘charitable purposes’ (as defined in UK legislation), but it must also be registered as a charity in a country of the UK, EU or EEA.
This means that a gift to a US based charity does not qualify for the exemption regardless of the cause. Lifetime transfers can trigger IHT charges immediately as well as charges to UK capital gains tax on assets gifted in specie.
US
The US imposes equivalent geographical limitations for income tax purposes (i.e. a charitable gift must be made to a US organisation to qualify for relief), but this limit does not apply for US estate tax purposes where charitable bequests are made by US citizens and domiciliaries. Non-US citizens/domiciliaries, however, must leave US situs property to a US organisation to qualify for the US estate tax charitable deduction.
Myth 3: Gifts of appreciated assets will not trigger capital gains tax
US
In the US, gratuitous transfers of appreciated assets will not constitute chargeable disposals for US income tax purposes – i.e. any in-built capital gain will not be calculated on such transfers. Instead, the donor’s base cost in the assets will be “carried over” to the donee and will be used to compute the gains realised on the eventual disposal of the assets by them.
UK
However, in the UK, with certain limited exceptions, a gift of an asset will be a chargeable disposal for capital gains tax purposes. If chargeable gains are triggered in the UK but not in the US on the same event, this can give rise to a risk of double taxation because the mismatch in treatment can cause a loss of relief under the US-UK double tax treaty.
Myth 4: Gifts will always pass free of tax if I survive for seven years
UK
In the UK, outright lifetime gifts to individuals will generally be subject to the ‘potentially exempt transfer’ (“PET”) regime. This means they will pass out of the donor’s estate free of IHT if the donor survives the gift by seven years or more. If the donor survives the gift by more than three years but less than seven, the gifted sum will be subject to IHT on the donor’s death, but at a reduced rate. The PET regime can be extremely advantageous for individuals who can afford to make substantial lifetime gifts, as there are no limits on the amount that can be given away to the next generation taxfree under this regime.
US
If you are subject to US gift and estate tax your gifting will be limited, as there is no equivalent to the PET regime in the US. Instead, US citizens and domiciliaries are limited to making annual gifts to (any number of) individuals of up to $17,000 (in 2023) and otherwise eating into their lifetime exclusion amount of $12.92 million. Gifts in excess of these amounts are subject to immediate US gift tax at a rate of 40%, which is likely to be prohibitive in most cases.
Myth 5: I can make gifts into trust up to the available US gift and estate tax lifetime exclusion amount without incurring tax
US
It is common planning for US citizens and domiciliaries to make substantial lifetime transfers of assets into trust. By doing so, they can potentially remove assets (and any future growth on those assets) from their estates for US estate tax purposes. Provided the value of the assets transferred falls within their lifetime exclusion amount for gift and estate tax, this can be done without triggering tax.
UK
By contrast, in the UK, transfers of assets into trust are immediately subject to IHT (subject to available exemptions or reliefs). IHT is charged at a rate of 20% to the extent that the value of the assets transferred exceeds the donor’s available ‘nil rate band’ of up to £325,000. This IHT charge will be “topped up” to a maximum of 40% in the event that the donor dies within five years of the transfer. For UK domiciled (or deemed domiciled) individuals, this will be relevant to transfers of any assets, worldwide. For non-UK domiciled individuals, this will apply to transfers of UK assets only. Where it is relevant, this IHT charge will generally prohibit lifetime planning using trusts.
As you can see there are important differences between the Uk and the US tax system when it comes to gifting and related tax implications.
Making a wrong assumption can be a costly business so contact our team for specialised advice in US and UK Tax.
If you are need support with tax implications of gifting in the UK or US get in contact with Graham.