A Gift of Surplus Income Is Not Just for Christmas

The festive season is a wonderful time for giving, but what if you could share that joy all year round? Gifting from surplus income is a meaningful way to provide for your loved ones while managing your inheritance tax (IHT) liabilities. However, this process requires careful planning and attention to detail—and we strongly recommend seeking professional advice to ensure everything is done correctly.

Mandy Crawford DipPFS Cemap, Financial Planner explores how you can make the most of this generous opportunity.

What is Gifting Out of Surplus Income?

Gifting out of surplus income means sharing money from your regular income rather than your assets. The advantage of this approach is that these gifts are immediately free from inheritance tax and don’t fall under the seven-year rule, which applies to gifts from your assets. However, this isn’t a straightforward process, as you’ll need to establish a clear pattern and maintain thorough records.

Important Considerations Before You Begin

• Establish a Pattern of Giving: If you plan to create a regular gifting pattern, we recommend writing a letter to the recipient(s) to record your intention. This letter should state that you intend to make further gifts out of your surplus income in the future. Such evidence can be invaluable if HM Revenue & Customs (HMRC) ever raises queries after your death.
• Keep Detailed Records: Document your income and expenditure carefully, so your executors can easily identify your surplus income in any given tax year. Printing off HMRC’s inheritance tax schedule IHT403 and using its headings to track your income and expenses can be helpful. Also, keep supporting documents such as bank statements or bills to confirm your records.
• Account for Prior Years: Keep records of your income and expenditure for at least two tax years before making your first gift. HMRC often accepts that unused surplus income from up to two years prior remains income and can be used for gifting purposes. This is particularly useful for those with fluctuating incomes, such as royalty earners.
• Include All Relevant Income: Don’t forget to include income sources such as ISAs and attendance allowance payments (though not taxable, they are considered income).

Why is it Worth Considering?

This exemption allows you to support your family while reducing the taxable value of your estate. Whether you’re helping a child onto the property ladder, contributing to your grandchildren’s education, or simply sharing the joy of giving, surplus income gifts are a practical and heartfelt way to make a difference.

Answering Key Questions About Surplus Income Gifting

How Much Can I Gift?

The amount you can gift depends on your surplus income. You can gift as much as you like, as long as it doesn’t affect your standard of living. Whether it’s modest amounts or substantial contributions like school fees or house deposits, the key is to ensure the gifts are part of your regular expenditure.

What Qualifies as Surplus Income?

Surplus income is what’s left after covering your regular outgoings. This can include:

• Employment or pension payments
• Rental income from property
• Dividends from investments
• Interest from savings

It’s important to calculate your income carefully to comply with HMRC rules. For example, tax-free withdrawals from investment bonds don’t count as income for this purpose.

What Are the Rules for Gifting Out of Surplus Income?

To qualify for the exemption, the following rules apply:

• Gifts must come from income: You can’t gift from savings or capital that’s built up over time.
• Gifts must be regular: Establishing a pattern—whether monthly, annually, or tied to events like birthdays—demonstrates that the gifts are part of your normal expenditure.
• Gifts shouldn’t affect your lifestyle: Your standard of living must remain unchanged after making the gifts.
• How Do I Record These Gifts?

Good record-keeping is essential to benefit from this exemption. Here’s how to stay on track:

• Write a letter to the recipient, stating your intention to make regular gifts from your surplus income.
• Keep a copy of this letter for your records.

Document your income, expenses, and gifts. This will help your executors when they complete HMRC’s IHT403 form after your passing.

A Year of Giving: Ideas for Regular Gifting

Spread the spirit of giving throughout the year with these ideas:

• Monthly contributions: Help a loved one with their rent or living costs.
• Education funds: Cover school or university fees for grandchildren.
• Holiday gifts: Make a tradition of gifting at Christmas or birthdays.
• Savings plans: Contribute to ISAs or Junior ISAs for children or grandchildren.

These thoughtful gestures not only strengthen family bonds but also ensure your gifts qualify as part of your normal expenditure.

The Benefits of Gifting Out of Surplus Income

• Immediate tax exemption: Unlike gifts from assets, surplus income gifts are instantly free from IHT.
• Flexibility: Gifts can vary in size and go to any recipient.
• Legacy building: Reduce your estate’s tax liability while enriching your loved ones’ lives.

Frequently Asked Questions

1. Can I gift from investment income?

Yes, income from investments such as dividends or rental income can qualify as surplus income. However, make sure your investment portfolio supports income generation

2. Does pension income count?

Pension income does qualify as surplus income, but it’s wise to consider the long-term implications. Unused pension funds can often be passed on tax-free, so weigh this option carefully.

3. What happens if my gifts aren’t regular?

HMRC requires gifts to form part of your normal expenditure. Irregular gifts may not qualify, so setting a pattern and clearly stating your intentions is crucial.

4. Do I need to consult a professional?

Yes, we highly recommend seeking advice from a financial adviser or tax specialist. Professional guidance ensures your gifts meet HMRC criteria and are as tax-efficient as possible.

5. How can I make the process easier for my executors?

Filling out an IHT403 form during your lifetime and keeping it with your will simplifies matters for your executors. Maintaining accurate records and writing letters of intent also ensures everything is clear.

6. Are there any pitfalls to avoid?

Yes, take care not to gift so much that it affects your lifestyle. Ensure the income you’re gifting truly qualifies as surplus and think through the implications of gifting from pensions or other key sources.

By gifting from surplus income with care, you can enjoy the joy of giving while protecting your estate from unnecessary tax burdens. Whether it’s a festive tradition or a year-round practice, this little-known exemption can create lasting benefits for your loved ones—and peace of mind for you.

THIS ARTICLE DOES NOT CONSTITUTE TAX, LEGAL OR FINANCIAL ADVICE AND SHOULD NOT BE RELIED UPON AS SUCH. TAX TREATMENT DEPENDS ON THE INDIVIDUAL CIRCUMSTANCES OF EACH CLIENT AND MAY BE SUBJECT TO CHANGE IN THE FUTURE. FOR GUIDANCE, SEEK PROFESSIONAL ADVICE.

THE TAX TREATMENT IS DEPENDENT ON INDIVIDUAL CIRCUMSTANCES AND MAY BE SUBJECT TO CHANGE IN FUTURE.

THE FINANCIAL CONDUCT AUTHORITY DOES NOT REGULATE TAX AND TRUST ADVICE.