Private Wealth Partner, Clare Stirzaker provides expert commentary in the Financial Times looking at the following scenario...

Q: At the age of 90, I am about to receive a large compensation payment. I intend to give it to a number of charities. How should I go about receiving and making payments to avoid possible inheritance tax and income tax liabilities?

Clare Stirzaker says: deciding to give to charity under your will or during your lifetime is a fantastic way of leaving a meaningful legacy and is endorsed by HM Revenue & Customs through various tax benefits.

Money left to charity in your will is exempt from inheritance tax, helping bring down the eventual bill for your estate. However, if you feel particularly magnanimous and leave 10 per cent or more of the net value of your estate to charity, this reduces the IHT rate on the entire estate from 40 per cent to 36 per cent. This revised rate is applicable to chargeable assets where the total value exceeds the nil rate band of £325,000; other exemptions and reliefs are either not available or are limited.

When calculating the likely fiscal impact of this relief, the value of “freely disposable assets”, must be identified, excluding jointly owned assets or those held in trust in which you hold an interest. Broadly, the value of the freely disposable portion less any available nil rate band (taking account of IHT reliefs and exemptions) is the baseline amount and will help identify whether your intended donation could equal or exceed the 10 per cent threshold.

Where the 36 per cent rate applies, the charity benefits as do your heirs, who pay a reduced rate of IHT. If you wish to gift at least 4 per cent of your estate to charity, your heirs may be better off by you increasing the gift to 10 per cent, to secure the 36 per cent rate.

This is a complicated calculation to make, so it’s important to seek professional advice to ensure that your charitable and IHT objectives are fully achieved. Your solicitor should advise on how your will can provide your executors with sufficient flexibility to achieve the 10 per cent threshold after your lifetime. It may also be possible for your heirs to vary the terms of your will to achieve the 10 per cent allocation, ideally guided by any wishes you may have left behind.

The charitable exemption from IHT also applies to gifts made in your lifetime, so any capital donations to charity are not added to your free estate if you die within seven years. Also, if you are a UK taxpayer then, under the Gift Aid scheme, the charity can reclaim the basic rate (currently 20 per cent) of income tax on the donation. If you are a higher or additional rate payer, you can reclaim the higher or additional rate paid from HMRC. To use the scheme, you must have paid in the same tax year in income tax or capital gains tax at least as much as the charity will reclaim.

It should also be flagged that IHT relief now only applies to charities located in England, Wales and Scotland and notably no longer to charities within the EEA.

This article was first published in the Financial Times on 25 October 2023 (paywall). 

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