Inheritance Tax & Lifetime Gifting: How Taper Relief and Insurance Can Protect Your Estate
Understanding and Protecting Against the 7-Year Rule
For those facing a potential inheritance tax (IHT) liability, direct gifting is one of the most straightforward and tax-efficient solutions available.
However, while making direct gifts may seem straightforward, many people misunderstand how the tax rules work in practice, particularly the concept of 'taper relief'. There's also the concern about whether you'll survive the required seven years for the gift to become fully exempt.
In this week's blog, we explore the mechanics of taper relief and how combining direct gifting with a short-term insurance policy can provide both tax efficiency and peace of mind.
The Basics of Gifting and Inheritance Tax
Some gifts are immediately and fully exempt from inheritance tax:
Annual gifting exemption – You can give away up to £3,000 each tax year without any potential IHT charge.
Regular gifts out of surplus income – If you can demonstrate that the gift is made from income (not capital), is regular, and doesn’t affect your standard of living (i.e. it comes from surplus income), it can be exempt.
Gifts to charities and political parties – These are entirely free from IHT.
Small gifts of up to £250 per person per tax year – Provided the recipient hasn’t also benefited from your £3,000 exemption.
Wedding or civil partnership gifts – Up to £5,000 from a parent, £2,500 from a grandparent, or £1,000 from anyone else.
Any gifts that fall outside these exemptions are usually classed as Potentially Exempt Transfers (PETs). There’s no upper limit on how much you can give away—but these gifts will only fall fully outside your estate for IHT purposes if you survive seven years from the date of the gift.
If you die within that seven-year window, some/all of the value of the PET may be added back into your estate and could be subject to IHT.
It's worth noting that gifts into certain types of trusts—such as discretionary trusts—can trigger an immediate 20% IHT charge to the extent they exceed your available nil-rate band (typically £325,000 per person). These are classed as ‘Chargeable Lifetime Transfers’ (CLTs). We’ll revisit this in a future blog.
Taper Relief: How It Works
Taper relief is a potential reduction in the amount of IHT payable on certain lifetime gifts if the donor dies within seven years of making them.
Importantly, taper relief does not reduce the value of the gift itself. It only reduces the tax due on any portion of the gift that exceeds the donor’s available nil-rate band (NRB)—typically £325,000.
This is one of the most misunderstood aspects of IHT planning. Many people—including some financial commentators—mistakenly believe taper relief applies to the whole gift. It doesn’t. It applies only to the tax due on the excess above your NRB.
When Does Taper Relief Apply?
If death occurs within three years of making the gift: the full 40% IHT rate applies.
If death occurs between years 3 and 7, the tax on the excess is reduced on a sliding scale:
Worked Example
Example 1: No Taper Relief Available
In January 2020, Helen gifted £250,000 to her daughter. She sadly passed away in May 2025.
Helen made no other non-exempt gifts.
The £250,000 gift falls within her £325,000 nil-rate band.
As a result, no IHT is payable on the gift—and taper relief does not apply.
The gift simply reduces the NRB available to offset against the rest of her estate to £75,000 (£325,000 NRB - £250,000 gift)
This example illustrates that there is no partial benefit from taper relief unless the gift exceeds the NRB.
Example 2: Taper Relief Applies
In a parallel universe, Helen 2.0 gifted £550,000 in January 2020. She also passed away in May 2025.
The gift exceeds the nil-rate band by £225,000 (£550,000 – £325,000).
As Helen died between five and six years after the gift, taper relief reduces the IHT rate on the excess to 16%.
The tax due is therefore £36,000 (16% × £225,000 excess). Note here, this would typically be paid by the gift recipient, unless provisioned for in Helen’s will (as is typical).
Separately, the nil-rate band is fully used by the gift, leaving no NRB to set against the remaining estate.
Protecting Against the 7-Year Rule
One of the main concerns with making substantial gifts is the possibility of not surviving the full seven years required for complete IHT exemption. This is where an insurance-based solution comes into play.
Insured Gifts: How It Works
Blending a level 7-year term assurance policy with a specialist ‘inter-vivos’ policy can provide peace of mind.
A specialist policy – known as a gift inter vivos plan – is designed to cover any IHT due if the person gifting dies within seven years.
These policies work on a decreasing basis. As the IHT liability reduces each year (thanks to taper relief), so too does the level of cover provided by the policy.
Revisiting the previous ‘Helen 2.0’ example, she could have taken out a gift inter vivos policy covering the £225,000 excess over her NRB. The sum assured would reduce from year three in line with taper relief as follows:
This policy would have paid out the exact amount needed to settle any IHT liability – giving peace of mind to both Helen and her beneficiaries.
Helen might also consider taking out a level term policy for the NRB portion (£325,000). This part of the gift doesn’t taper – it’s always taxed at 40% if the NRB has been used up by the time of death.
A simple 7-year term assurance policy for £130,000 (i.e. 40% of £325,000) would ensure this portion is also protected.
Key Benefits of Gift Inter Vivos Insurance
Here are the key benefits of Gift Inter Vivos plans, and making insured gifts in general:
Matching Cover: The sum assured decreases in line with taper relief, providing just the right amount of cover needed at any point during the seven years.
Certainty: Beneficiaries won't need to find funds to pay an unexpected IHT bill.
Cost-Effective: Since the cover decreases over time, premiums are typically lower than for a standard level term policy.
Written in Trust: The policy should be written in trust so that it doesn't form part of your estate and the proceeds can be paid directly to your beneficiaries without waiting for probate.
Note, the Financial Conduct Authority does not regulate trusts, tax or estate planning. Life Assurance plans typically have no cash in value at any time and cover will cease at the end of term. If premiums stop, then cover will lapse. IHT thresholds depend on your individual circumstances and may change in the future. The value of tax reliefs depends on your individual circumstances. Tax laws can change.
A Practical Example: The Insured Gift Strategy with Significant Wealth
Insured gifts are particularly effective for larger estates, considering substantial gifts. Here’s a worked example:
Robert, aged 65, has an estate valued at £5 million. After careful consideration of his own future needs, he decides to gift £2 million to his two children (£1 million each). Robert is in good health but wants to ensure his children won't face a hefty tax bill if he doesn't survive the full seven years.
Step 1: Make the gift
Robert makes gifts totalling £2 million to his children. These become Potentially Exempt Transfers.
Step 2: Calculate potential IHT liability
If Robert were to die immediately, the gift would use his entire nil-rate band of £325,000, leaving £1,675,000 subject to inheritance tax: £1,675,000 × 40% = £670,000
This is a significant potential liability that his children might struggle to pay without selling assets or taking loans.
Step 3: Arrange gift inter vivos insurance**
Robert takes out a gift inter vivos policy with a starting sum assured of £670,000 that will decrease in line with taper relief:
Step 4: Set up in trust
The policy is written in trust with his children as the beneficiaries. This ensures the proceeds would be paid directly to them to cover any IHT liability arising from the gifts, without forming part of Robert's estate or being subject to probate delays.
Cost
For a 65-year-old non-smoker in good health, a 7-year gift inter vivos policy with an initial sum assured of £670,000 might cost around £250 per month.
Over the full term, that adds up to roughly £21,000 in total premiums. While that’s a significant outlay in absolute terms, it’s worth noting this equates to just 3% of the potential (immediate) IHT saving.
Conclusion
Making gifts during your lifetime remains one of the most effective ways to reduce your estate’s exposure to inheritance tax. But the benefits hinge on surviving the full seven years.
By combining a clear understanding of taper relief with a tailored insurance solution, individuals can make significant gifts with confidence. Gift inter vivos policies offer a simple, cost-effective way to protect your beneficiaries from a sudden tax liability, should the worst happen.
Happy (ish) Thursday!
Kind regards,
George
Important Disclaimer
This blog is for general information only and is intended for retail clients. It does not constitute financial or tax advice, nor is it an offer to buy or sell any specific investment. Since I don’t know your personal financial situation, you should not rely on this content as tailored advice. While we aim to provide accurate and up-to-date information, we cannot guarantee that all details remain correct over time. We are not responsible for any losses resulting from actions taken based on this blog’s content.
