When it comes to Inheritance Tax (IHT), few people make full use of the normal expenditure out of income exemption. This valuable rule enables those with more income than they need to support their lifestyle to make regular, tax-free gifts to loved ones. Unlike other allowances, these gifts fall outside the estate immediately, without the usual seven-year waiting period.
For individuals with reliable and consistent income streams, this exemption offers a legitimate and highly effective way to reduce future IHT liability while helping family members during their lifetime.
The exemption applies to regular gifts made from surplus income, rather than from savings or investment capital. HMRC sets out three key conditions that must all be satisfied:
If these conditions are met, there is no limit to how much can be gifted. This distinguishes it from the £3,000 annual exemption and makes it especially valuable for those with higher pension, dividend, or rental income.
HMRC recognises a range of income sources that can be used for gifting purposes, including:
However, withdrawals from investment bonds are not eligible, as they are treated as capital rather than income.
This exemption can be a valuable component of a broader financial strategy. Many portfolios automatically reinvest income, which prevents it from being available for gifting. By adjusting investments so that income is distributed rather than reinvested, you may increase the amount of surplus income available and make larger gifts within the rules.
It is important to make these decisions in conjunction with your financial planner and accountant, ensuring your investment strategy continues to meet your financial goals while leaving sufficient income for your own needs.
HMRC expects clear evidence that gifts were made from income and that your standard of living was not affected. Maintaining accurate records is essential.
Page 8 of HMRC’s IHT403 form provides a helpful framework for recording income, expenditure and surplus amounts. Completing this annually offers clarity and creates a valuable paper trail for your executors.
It is also advisable to write a Letter of Intent outlining your intention to make regular gifts from income. This can strengthen your position should HMRC ever request evidence and makes your wishes clear for future reference.
Using surplus income for regular gifts allows you to support family and friends today, while also reducing the size of your taxable estate. It can be a meaningful way to contribute to the next generation’s financial wellbeing, whether by helping with education costs, property purchases or general financial support.
Handled carefully and documented properly, gifting from normal expenditure combines generosity with prudence. It remains one of the most underused yet effective tools in estate and inheritance tax planning.
Investment Quorum can help you assess whether you qualify for this exemption, structure your income efficiently, and ensure your gifting strategy remains compliant with HMRC guidance.
