Ordinarily, when an individual (the donor) makes a gift*, it is considered to be a Potentially Exempt Transfer (PET) for Inheritance Tax (IHT) purposes. If the donor dies within seven years, the PET is taken into account on death and tax is calculated accordingly. If the donor survives for seven years, the PET can be disregarded.

With Inheritance Tax (IHT) levied at 40%, and the PET rules in mind, many aim to reduce their estates by gifting property.

Whilst gifting property may sound like an obvious solution to reducing an estate, there is a great deal to consider. In particular, where a donor continues to derive any benefit from the gifted property, their estate is not reduced. Instead, the gift is said to be one with reservation of benefit and the ‘GROB’ rules work to treat the gift as never made for IHT purposes.

When do the GROB rules apply?

The GROB rules are triggered when someone gifts property and one of the following applies:

• The recipient did not take possession of the property and enjoy use of it for a period of either seven years immediately before the death of the donor or the date of the gift; or

• The recipient did not enjoy use of the property to the entire exclusion, or virtually the entire exclusion, of the donor during either the seven years immediately before death or since the date of the gift.

The rules also capture transfers made at an undervalue, with gift elements.

What are the effects of the GROB rules?

Where there has been a reservation of benefit enjoyed by the donor, and such reservation continues until death, the property is treated as part of the donor’s estate for IHT purposes. This is usually the opposite of what the donor set out to achieve. However, it is important to note, that for Capital Gains Tax (CGT) purposes, the property is treated as gifted and therefore there is no uplift in value on the donor’s death.

Where there has been a reservation of benefit, but that benefit ceases whilst the donor is alive, the donor is treated as having made a PET at the date of such cessation. If the donor then outlives the PET for seven years, then the gift will have passed free of IHT in accordance with the usual rules. It should be noted that the donor must continue not to reserve any benefit up to the date of their death.

The family home

A typical example of when the GROB rules are encountered is when a person thinks about passing the family home to their children. For most people, their home is their most valuable asset, hence their desire to remove it from their estate. However, if the donor continues to live in the home, the GROB rules will work to treat the home as part of the death estate for IHT purposes. There is, however, no reservation of benefit where full market rent is paid for occupation, or when the donor is no longer able to look after themselves and the recipient allows them

to stay so that they can be cared for. Moreover, if a share of the home is gifted and the recipient and donor both occupy the home, such gift would be treated as a PET so long as both occupied the home. (The GROB rules would kick in if the recipient vacated the home unless full market rent were paid for the donor’s occupation.)

Measures taken to sidestep the GROB rules must be carefully considered. For example, in relation to the payment of full market rent, the donor and recipient should negotiate the rent and tenancy agreement at an arm’s length, each using independent advisers. The rent should be regularly reviewed, and the donor must ensure they have sufficient means for paying the rent until their death. (In terms of the recipient’s rental income, this would have to be declared and taxed to income tax at the recipient’s marginal rate, something which may make a gift less attractive.)

Negligible benefit

The GROB rules do allow for some minor benefit to be derived from gifted property. So long as the recipient enjoys the property to ‘virtually the entire exclusion’ of the donor, there is no reservation of benefit.

Short stays in a house or infrequent use of a car by a donor may not be treated as a reservation. However, each case hinges on its own facts. Variables such as whether the recipient is present and the donor’s normal habits before the gift would all be taken into account by HMRC. In any event, the continued use of gifted assets by the donor should be kept to a minimum and not impede the recipient’s ability to use the property howsoever and whensoever they choose.

Before making gifts

Careful consideration must be given before any gifts are made, regardless of whether the donor may like to continue to use such property.  Where a donor contemplates gifting an asset that they would likely not want to be without, particular attention must be given to the GROB rules. Along with IHT considerations, CGT must be fully considered prior to gifting assets. A CGT liability could immediately arise on a gift unless it is covered by available reliefs or exemptions.  Furthermore, the less well known Pre-Owned Asset Tax (POAT) may be lurking and could cause serious difficulties where a gift otherwise manages to avoid the GROB rules.

Aside from tax considerations, the very nature of a gift puts the property beyond the recall of the donor. Donors should ensure that their standard of living would not be affected by the loss of the property, and understand that property, say in the hands of their children, could be clawed at by divorcing spouses or creditors.

* with the exception of gifts into a Trust

Written by Oliver Clark – Trainee Solicitor – Private Client

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