Inheritance Tax exempted gifts - what qualifies as "Income"

[hiriskpaul]

I make regular gifts that do not affect my standard of living. I understand these must be from income not capital to count as exempted gifts, but what counts as income here? I cannot find a definitive answer to this. Presumably employment income, pension income, share dividends and interest all qualify as income, but are there any circumstances when any of these sources of income would not qualify?

A few other areas I am uncertain about:

Does profit from options trading, normally subject to capital gains tax, count as income?

Does profit from spread betting, not subject to income tax or CGT (profits from gambling), count as income?

When taking SIPP drawdown payments, which goes through PAYE and is subject to income tax, would there ever be a look through to see whether the drawdown payments were coming from capital rather than solely from dividends/interest? i.e. if drawdown payments were made from the sale of assets in the SIPP, or from maturing bonds, would the payments count as income?

Similar to the above, but for ISAs. e.g. if taking cash from an ISA that came from the sale of shares, would that count as income? In this case I suspect it would not, but it would be useful to know.

What about income from a depreciating asset? For example, if a high coupon bond is purchased above par value, so that its value drops as maturity approaches, would all the coupon payments still qualify as income?

[test]

Profits from sports gambling qualify as income with regards to IHT exempted gifts.

[PaulBullet]

I used https://assets.publishing.service.gov.u ... _10_18.pdf

this shows income as

Salary
Pensions
Interest (including PEPs
and ISAs)
Investments
Rents
Annuities (income element)
Other
Minus Income Tax paid

[Chrysalis]

It’s a bit vague though isn’t it? ‘Investments?’
I would imagine that only means income from investments, ie dividends.
With regard to pensions, I would imagine that tax free cash doesn’t count as income, but drawdown income does. Not sure how UFPLS would be treated...is that capital or income???
It looks like for ISAs, you can only count income and not for example sale of funds (so I guess switching to income generating funds rather than acc funds would be wise if you were doing this). For invested pensions, I imagine what matters is how you withdraw rather than whether you sell assets within the wrapper.
That’s all just speculation though!

[Chrysalis]

https://www.pruadviser.co.uk/knowledge- ... xemption/#

This might be helpful - it’s not just the definition of income you need to be wary of, but also the type of gift - it has to be regular or intended to be regular. One off gifts don’t count.

[hiriskpaul]

Profits from sports gambling qualify as income with regards to IHT exempted gifts.

Interesting thanks. I have not been able to verify this. Do you have any links?

[hiriskpaul]

I used https://assets.publishing.service.gov.u ... _10_18.pdf

this shows income as

Salary
Pensions
Interest (including PEPs
and ISAs)
Investments
Rents
Annuities (income element)
Other
Minus Income Tax paid

It is the "Other" that interest me with respect to options and spread betting income!

As they specifically say pensions, I would hope that any drawings from a drawdown pension, including PCLS and UFPLS, would be classed as income, but have not found anything to verify it. The problem is that uncapped pension drawdown is of course very new. The fact that they say "Interest (including PEPs and ISAs)", would indicate to me that drawing part of the proceeds of asset disposals from ISAs is probably not allowed as income.

[hiriskpaul]

https://www.pruadviser.co.uk/knowledge-literature/knowledge-library/normal-expenditure-out-of-income-exemption/#

This might be helpful - it’s not just the definition of income you need to be wary of, but also the type of gift - it has to be regular or intended to be regular. One off gifts don’t count.

Yes, regularity is another can of worms, but I was trying to work out what constitutes income first! The Pru document is very good, but does not really tackle some of the issues I mentioned. In buying a high coupon bond for example, I can see that the HMRC might consider part of the interest as return of capital, even though the interest will have been taxed as income outside a tax shelter.

Some pensions solely hold accumulating funds, with the pension provider cancelling units to cover fees. It would be quite a blow to some if the HMRC were to consider drawings from such pensions as a return of capital rather than income.

[Chrysalis]

Is it worth discussing with HMRC or a tax accountant, especially with regard to the treatment of pensions in flexi-access drawdown or using UFPLS? Lots of potential grey areas there. I would be interested to know more as well.

[Charlottesquare]

https://www.gov.uk/hmrc-internal-manual ... /ihtm14250

Worth a read plus some of the other sheets, see index:

https://www.gov.uk/hmrc-internal-manual ... /ihtm14000

[scrumpyjack]

It isn't clear, in respect for example of ISAs, whether you can only count ISA dividends if they were withdrawn from the ISA. Only if withdrawn would they be 'available' to be spent? I leave all the dividends in my ISA to accumulate and it is now quite a large amount each year!

Similarly I have a drawdown pension where I don't take any income. Would the available pension income (eg dividends in the SIPP) less tax count as 'income' for the purposes of making regular gifts?

[test]

Profits from sports gambling qualify as income with regards to IHT exempted gifts.

Interesting thanks. I have not been able to verify this. Do you have any links?

I don't have a link, HMRC confirmed it in a phone call I made to them.

[hiriskpaul]

It isn't clear, in respect for example of ISAs, whether you can only count ISA dividends if they were withdrawn from the ISA. Only if withdrawn would they be 'available' to be spent? I leave all the dividends in my ISA to accumulate and it is now quite a large amount each year!

Similarly I have a drawdown pension where I don't take any income. Would the available pension income (eg dividends in the SIPP) less tax count as 'income' for the purposes of making regular gifts?

Firstly, is investment an expenditure? It is not listed as such on IHT403 in the expenditre section, although there is an "other" category. I would have thought it strange to say that investment in shares/bonds was part of expenditure, because it is clearly something that does not have to be done, but it is not really clear that it isn't. If not part of expenditure (very likely IMHO), then reinvested dividends I think should be counted as income. The next part is really how the HMRC considers drawdown pension pots. If you are not drawing, does HMRC consider that you have no income from the pension? That would seem very unfair. But if they do consider a drawdown pension to be a source of income, how much income? I guess they could look at the natural yield of the investments, which I assume is what they do for unsheltered investments and those in ISAs, but that seems a little artificial as it can vary enormously depending on the investments held. For example, my Co-op bonds have a running yield of over 8%, but my US equities less than 2%. The whole point of a pension is to provide an income and that can come from either capital or income.

Drawdown pensions may well be treated differently by HMRC compared to other investment accounts. For example purchased life annuities are not considered to be solely income, but to contain an element of capital return, but purchased pension annuities are considered to be solely income.

The whole thing seems quite a muddle.

[hiriskpaul]

https://www.gov.uk/hmrc-internal-manuals/inheritance-tax-manual/ihtm14250

Worth a read plus some of the other sheets, see index:

https://www.gov.uk/hmrc-internal-manual ... /ihtm14000

Thanks I have been through this, but am little wiser!

[scrumpyjack]

I suspect that the revenue would accept that income in ISA’s is ‘income’ for this purpose. They have I think said elsewhere that you do not need to show a cash flow link between the income and the gift, eg the gift does not need to be made out of the bank account that the income came in to. I would argue, (if I were not dead at the time), that the ISA dividends were income that was available to me and should therefore be included in the ‘income’ out of which gifts can be made without depletion of capital. The fact that I left the dividends in the ISA account and funded the gift from other cash is irrelevant.

I am not so sure they would accept the same argument for undrawn drawdown pensions. I could argue (again if I were not dead at the time!) that the dividends received in the pension are ‘available’ to me (less tax) and so should be counted in the total ‘income’ figure used to check that gifts have been made within the constraint of not depleting my capital.

It is curious that these entirely predictable arguments are not dealt with in the inspectors manual, as the point of the manual is to enable inspectors to determine cases without having to refer back to higher authority.

[genou]

I suspect that the revenue would accept that income in ISA’s is ‘income’ for this purpose.....

I am not so sure they would accept the same argument for undrawn drawdown pensions.

We did this a while ago. I was happy with the argument that the income flowing into the pension is actually income of the trustees; you have to pull from the pension to turn into your income.