Transferring property to a family member to mitigate tax: the pitfalls and legal implications

Transferring property to a family member is often suggested as a strategy to mitigate tax liabilities associated with inheritance tax and estate planning. However, while this may seem like an attractive option, it’s crucial to understand the potential pitfalls, particularly in light of the Gift with Reservation of Benefit (GWR) rules, Capital Gains Tax (CGT) and Stamp Duty Land Tax (SDLT) implications. These factors can render the strategy less beneficial than anticipated. This article explores the complexities involved and the potential financial repercussions for both the giver and the receiver.

The basics of property transfer to mitigate tax

Transferring property to a family member typically involves gifting the asset during the property owner’s lifetime rather than passing it on through a Will. The primary motivation is often to reduce the value of the estate, thereby lowering the inheritance tax liability. In many jurisdictions, assets transferred as gifts can be exempt from inheritance tax if the donor survives for a specific period (usually seven years). However, this seemingly straightforward approach is fraught with complexities, particularly due to the GWR rules, CGT and SDLT rules.

Gift with Reservation of Benefit (GWR)

The GWR rules are specifically designed to prevent individuals from circumventing inheritance tax by gifting assets while retaining some benefit from them. Under the GWR rules, if the donor continues to benefit from the property after transferring it—such as by living in it rent-free—the gift is not considered complete for inheritance tax purposes. Essentially, the property will still be regarded as part of the donor’s estate when calculating inheritance tax upon their death.

However, the GWR rules allow certain exceptions, such as if the donor pays the market rent or if they no longer benefit from the property in any way. However, meeting these conditions can be challenging and might not be practical for many families. If GWR applies, the transferred property remains subject to inheritance tax.

Capital Gains Tax (CGT) Implications

Another critical aspect to consider is the CGT liability that may arise from transferring property. CGT is a tax on the profit realised when selling or transferring an asset that has increased in value. When property is transferred as a gift, it is deemed to be made at its market value for CGT purposes, even though no money changes hands.

Suppose a parent transfers a second home (not their primary residence) to their child? If the property has appreciated in value since it was originally purchased, the difference between the original purchase price and the current market value is considered a gain. The parent would then be liable for CGT on this gain.

If the child later sells the property, they may also be liable for CGT on any further increase in value since the date of the gift. This potential double taxation can significantly erode the financial benefits of the property transfer.

CGT rates on residential property gains for 2024/2025 is charged at 18% for basic-rate taxpayers and for higher-rate taxpayers, it is charged at 24%.

A CGT liability is not triggered on the transfer of an individual’s Principle Private Residence.

Stamp Duty Land Tax (SDLT) implications

The family member receiving the property may face a SDLT liability. SDLT is payable on property transfers based on the property’s market value at the time of transfer, even if no payment is made. If the family member already owns another property, higher SDLT rates may apply, further increasing the tax liability.

An example of GWR, CGT and SDLT in practice

Consider a parent who transfers their home (Principal Private Residence) to their child but continues to live there without paying market rent. The parent will not face a CGT liability at the point of transfer as the property constitutes their Principal Private Residence. However, If the recipient already owns other property, additional SDLT on second properties might apply. Furthermore, under GWR rules, the property will be included in the parent’s estate when calculating inheritance tax.

Additionally, since the parent bought the house for £200,000 several decades ago, the £300,000 gain in market value triggers a CGT liability. When the parent passes away, the child not only faces potential inheritance tax on the £500,000 but also potential CGT if he decides to sell the property, reducing the overall inheritance significantly.

Other significant implications

Once transferred, you no longer legally own the property, which means you lose control over what happens to it. This could become problematic if your relationship with the recipient changes or if they encounter financial difficulties.

If the family member who now owns the property faces personal issues such as divorce, bankruptcy, or other financial troubles, the home will be at risk of being claimed by creditors or divided in a divorce settlement.

If you give away your property and later go into a care home, then you run the risk that a Local Authority may argue that you have deliberately deprived yourself of an asset in order to avoid paying care home fees. The Local Authority may seek to claw back the gift.

If there is a mortgage on the property, you may need to get permission from the lender before transferring ownership and they may not allow it.

Professional advice

Given the complexities and potential pitfalls involved in transferring property to a family member, it is crucial to seek professional advice from a professional; Solicitor and Accountant. These professionals can provide tailored strategies that consider individual circumstances, ensuring compliance with tax regulations while maximizing tax efficiency.

An alternative way to mitigate tax, is to consider making regular lifetime gifts: Regular small gifts, within the annual allowance limits, can reduce the value of the estate over time without triggering significant tax liabilities.

Conclusion

While transferring property to a family member might seem like a straightforward way to mitigate tax liabilities, the implications of GWR rules, CGT and SDLT can significantly diminish its benefits. By exploring alternative strategies, individuals can create more effective and sustainable inheritance planning solutions that align with their financial goals and ensure compliance with tax regulations.

How Pinney Talfourd can help

At Pinney Talfourd, we specialise in providing expert advice on the complexities of property transfers, inheritance tax planning, and navigating tax regulations like GWR, CGT, and SDLT. Our experienced Private Client team will work with you to create tailored solutions that protect your assets and ensure tax efficiency.