A rising number of families are being unexpectedly hit with inheritance tax (IHT) bills on gifts, as more people fall foul of the complex seven-year rule, recent figures reveal.

The rule stipulates that any assets transferred within seven years of a person’s death are considered part of their estate for tax purposes, subject to a 40% tax on amounts exceeding the £325,000 threshold.

Data obtained through a Freedom of Information request shows that in the 2020-21 tax year, 1,300 families were required to pay inheritance tax on gifts, more than doubling the 590 families affected in 2011-12. These figures reflect the growing trend of parents and grandparents giving away substantial amounts to help their children onto the property ladder or to reduce the size of their estate. However, with property prices and other assets soaring, many of these gifts are exceeding the tax-free allowance.

Collectively, these 1,300 families paid £256 million in death duties on large gifts, marking a significant increase from the £101 million paid in 2011-12. The spike in these tax bills, up by 119% in real terms, highlights the financial strain on families who may not have anticipated the need to pay such a high tax on gifts received years earlier.

Ian Dyall of Evelyn Partners, the wealth management firm that analysed the data, pointed out that many families might not have the liquid assets needed to cover these unexpected bills, especially if the gifts were invested in illiquid assets like property. He also noted that while some families are increasingly aware of the potential tax benefits of making large lifetime gifts, the strategy can backfire if the donor does not survive the seven-year period required to escape the tax liability.

Amidst this growing concern, there are rumours that Labour is considering raising inheritance tax to address a significant gap in public finances, prompting wealthy savers to take preemptive action. Lawyers have reported a surge in clients anxious about potential changes, with many opting to make substantial gifts now, before any new tax measures are introduced.

James Ward of Kingsley Napley highlighted that clients with assets between £2 million and £5 million are particularly worried about losing existing tax exemptions, such as the nil-rate band or the residence nil-rate band, and are seeking advice on how to mitigate the impact of potential tax increases.

A Treasury spokesperson acknowledged the challenges ahead, stating that difficult decisions on spending, welfare, and tax would be made in the upcoming Budget to address the £22 billion shortfall in the public finances. The possibility of further tax changes remains on the table as the government seeks to stabilise the economy.

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Hundreds of families caught by seven-year inheritance tax rule as gifts trigger unexpected bills