Why charitable giving needs forward planning in UK and US

Differences in tax exemptions in the US and UK mean ‘giving’ needs careful consideration.

In brief

• There are large differences between UK and US gift tax exemptions, which create complications.
  
• Those giving and receiving gifts between the US and UK are advised to be aware of potential liabilities, particularly for capital gains.

The current combined federal estate tax and gift tax exemption is US$12.9mn for 2023. Without legislative change, this exemption amount will reduce to around US$6.5mn on 1 January 2026. 

Many taxpayers are therefore considering whether to make gifts in the short term before any changes come into force.

For those with potential UK and US tax liabilities, however, careful planning may be needed. Whether it is a large gift or a more modest token of affection, planning will ensure the gift doesn’t trigger a tax bill, either for the giver or the recipient.

For UK tax purposes, an individual’s tax exposure when making gifts is generally determined by their domicile rather than their residence. This is because giving assets away will ultimately reduce the taxable estate. However, a gift may also be treated as a disposal for capital gains tax purposes. Anyone considering making a gift should therefore check the position in light of their specific circumstances. 

This is particularly important for long-term UK residents who are deemed ‘UK domiciled’ for inheritance tax but maintain their domicile of origin in another country. They will potentially need to consider the interaction between the gift and estate tax regimes in both jurisdictions.

In all cases, it bears noting that a gift must be precisely that: an asset with no strings attached and no further claims on it. If this is not the case, the rules may negate any perceived tax benefits of making the gift in the first place. This will be the case for those wanting to, for example, give away the family home yet continue to live in it; or give away a valuable painting while keeping it on their wall. The giver cannot retain any legal right to, or any economic benefit from, the gift. Otherwise, it is very likely to be deemed part of the estate for inheritance tax purposes.

Inheritance tax/gift tax: Lifetime gifts to spouses and civil partners

The UK rules allow assets to pass between spouses and civil partners with the same UK domicile with no inheritance tax. The position is the same for gift tax in the US when both parties are US citizens. 

For those with different UK domiciles, however, a bit more care is needed.

For a UK domiciled individual giving to a non-UK domiciled spouse or civil partner, gifts up to a value of £325,000 are entirely exempt. Gifts of any value above this will use the £325,000 nil rate band for inheritance tax (IHT) and are treated as a potentially exempt transfer. If and once the donor survives seven years from the gift’s date, the value will be outside their estate completely. An election can potentially be made by the recipient to be treated as UK domiciled, but this can have wider implications.

A US citizen’s gift to their non-US citizen spouse or civil partner, up to the value of US$175,000 (2023 annual exemption), has no gift or estate tax implications. The value in excess of this will need to be reported on a gift tax return. It will be offset against the donor’s lifetime gift and estate tax exemption, as detailed above.

Inheritance tax/gift tax: Gifts to other individuals

Both the UK and the US tax authorities also allow some exemptions for gifts to other people. The provisions in each country differ significantly, however. 

In the UK, the thresholds may not appear overly generous, but there are several exemptions. Gifts up to the value of £250 each can be made to any number of individuals in a tax year, for example, and are ignored for IHT purposes. For gifts over £250, individuals also have a personal annual gift exemption of £3,000. If this exemption is not used, it can be carried forward for one year only, for a maximum exempt gift of £6,000. 

There is also a special provision for wedding gifts. Gifts “in consideration of marriage” are exempt to the value of £5,000, if from a parent of the bride or groom; £2,500 from a grandparent; and £1,000 from anyone else.

A lesser known, but potentially more valuable provision, is the exemption for gifts out of income. This permits unlimited generosity throughout the year providing it can be demonstrated that the gifts are made from surplus income, have no detrimental impact on the giver’s standard of living and do not diminish their capital. Those relying on this provision should seek advice on record keeping, as the gifts will ultimately need to be disclosed to HMRC on the inheritance tax return, with evidence to support the claim.

Any gifts that do not fall within the above provisions will be viewed as potentially exempt transfers (PETs): The value of the gift may escape IHT completely, provided the giver survives seven years from the date of the gift (with a gradual reduction in the tax rate applied to such gifts beginning from three years after the gift).

There is one important point to bear in mind for parents who gift significant sums to their minor children. In that situation, the parent will be subject to income taxes at their marginal rate if any investment income arising from the gifted amount exceeds £100 each year. These rules apply until the child turns 18.  

In the US, those who are US citizens or US-domiciled benefit from more generous exemptions. They can currently gift up to US$17,000 (2023 annual exemption) to any number of other individuals in the tax year. If both the individual and their spouse are US citizens or US-domiciled, they can elect to split the gift. This can effectively double the annual exclusion to US$34,000 per recipient. Electing to split a gift, however, does require a gift tax return to be filed.

US citizens feeling even more generous can take advantage of their significant individual estate and gift tax exemption. This is currently a maximum US$12.9mn in 2023. As mentioned above, under a special 'sunset provision', the lifetime exemption is due to reduce to around US$6.5mn. 

As with the UK, there are also lesser known but potentially valuable exemptions. One allows individuals to pay tuition or medical expenses for another directly to the provider. Such payments are not considered gifts for US tax purposes and are wholly exempt from tax for both parties.

Those who are neither US citizens nor US-domiciled can also make exempt gifts of tangible or real property that are not located in the US, or intangible property, such as shares in a US-quoted company. Both remain outside the scope of the US gift tax regime. 

Generally, only the donor needs to be concerned about US gift tax. In cases where the donor is subject to US expatriation rules, however, the recipient can also be liable. Individuals to whom this might apply should seek advice.r

Gifts and capital gains

A lifetime gift is considered a disposal from one party to another, so exposure to capital gains tax as well as inheritance and estate taxes needs to be considered. 

Gifts between spouses or civil partners are deemed to be on a no gain, no loss basis, even where they are in different domiciles. There is, therefore, no exposure to capital gains tax in either the UK or the US. Furthermore, cash is not a chargeable asset for capital gains tax in either jurisdiction.

Gifts of other assets, though, and to individuals other than spouses or civil partners, can create a tax headache. That’s in part because of the differing treatment between the jurisdictions.

In the UK, the gift is treated as a disposal of the asset at the market value on the date of the gift. This will potentially create a capital gains tax charge on any appreciation in value since acquisition.

This charge arises even though the asset has been given away, so that the individual has no sales proceeds from which to pay the tax due. The exception is where the gift is a business asset, such as shares in a personal trading company. In this case, an election can be made to hold over the gain. The recipient then inherits the base cost, and payment of capital gains tax is deferred until they dispose of the asset or become non-UK resident. Both parties must agree to this election.

Unfortunately for those considering gifting assets that have fallen in value in order to crystallise and claim the loss, unfortunately, HMRC has beaten them to it. A loss made on a gift to a family member (child, stepchild or sibling) can only be offset against a capital gain made on a gift made to the same person.

In the US, meanwhile, the gift is always made at the original cost of the asset. It is a no gain, no loss disposal for the giver, while the recipient receives the asset and the cost basis. Consequently, in some circumstances, such as where no estate tax is due, it may be better to wait and transfer the asset through a bequest in a will.

If both the donor and recipient are US persons and resident in the UK, the difference in tax rules between the jurisdictions may produce a double taxation exposure.

Gifts may trigger reporting requirements

Gift recipients can generally enjoy their good fortune without worrying that it will create an estate or capital gains tax liability for them. There are a few notable exceptions, however, and reporting may be required. 

Those receiving a lifetime gift worth more than £325,000 (the current IHT tax nil rate band threshold), from a donor who does not survive seven years will be liable for the estate tax due: up to 40%, although reducing for every year after three that the donor survives. 

Meanwhile, US tax residents receiving gifts of over US$100,000 from a non-resident alien (NRA) must report this on a gift tax return. Generally, there will be no tax liability for them, provided the donor was not a covered expatriate at the time they relinquished US citizenship. 

The difference between the UK and the US, in recognising a gifted asset’s base cost, can result in a mismatch when calculating the gain arising to the recipient when they dispose of the asset. Under US rules, the recipient is liable for capital gains on any appreciation of the asset over the entire holding period – even though they have only owned it personally for part of the time.

As a result, gift recipients subject to tax in both the UK and the US should seek advice before selling a gifted asset. This will enable them to optimise their foreign tax credit position in both jurisdictions.