Lawanswers are often asked if it is advisable for a parent to make a gift of the property in which he/she lives to an adult child .^[1]  The two usual aims of making such a gift are:-

1.  The parent is aware that if he/she requires residential care in old age, the property is liable to be sold and the proceeds used to pay for that care.  It is hoped that the gift will prevent this and will enable the child to come into his/her inheritance without that inheritance being eaten into by the state.

2.  A parent wishes to save Inheritance Tax by making a gift of the property. The parent is aware that after he/she dies Inheritance Tax may be payable on the value of his/her estate and hopes that a gift made now will avoid this.

In both cases the intended aim might succeed. However, before coming to a decision a number of risks need to be considered, some of which are set out below.  The risks fall into two categories:-

a.   the risk that the law might prevent the aim from being achieved

b.   the risk that other problems associated with  the gift might cause hardship to the parent.^[2]

Social Security – General

Before talking about the risks of ‘deed of gift’, it is first important to understand why a deed of gift is claimed to work.

The local Social Services Department  has a duty to assess the needs of anyone who might require residential care and, if necessary, arrange residential accommodation for those who, by reason of age, illness or disability are in need of care and attention which is not otherwise available to them.  The Social Services Department also has a duty to provide that care at its own expense but, having done so, it is obliged to assess the means of the person in care in case they are liable to pay towards the cost.  If that person has over £22,250^[3] in capital then he/she is assessed to reimburse the Local Authority for the whole of the cost of their care.  Once capital has fallen below £22,250⁴, the person’s contribution towards the cost to the Local Authority of providing the care also falls until their capital has fallen to  £13,500⁴ at which point the Local Authority can only look to income and not capital to help pay for their care.

If a person owns a house then the Local Authority will treat its value as capital and will assess the person’s care contribution accordingly unless his/her spouse or partner or dependant relative also lives in the house.  In these circumstances the Local Authority and the DSS must ignore the value of the property but if they do not apply then the Local Authority (but not the DSS) can take a charge over the house to ensure that they are reimbursed when it is sold.

Because residential care costs, at the very least, about £18,200 a year (nursing care costs approx £26,000 a year), the contributions made by a person can seriously deplete the estate which they can pass on to their children.

A deed of gift, if it works, will avoid that problem to some extent. The effect of the gift is that the house no longer belongs to the parent but to the child.  When the parent eventually runs out of cash he/she has no assets with which to pay contributions and therefore lives at the expense of the Local Authority or the DSS. By then the house belongs to the child who, it is hoped, can sell it and come into his/her inheritance.

Problem Number 1

The Health, Social Services and Social Security Adjudications Act, 1983

This Act allows a Local Authority to recover from anyone to whom assets were given any money owed to the authority in respect of the donor’s place in a residential home.  The power can only be used if the assets were transferred within six months of the Local Authority having to help fund the cost of the care and with the intention of avoiding using them to pay for the care.

Problem Number 2

National Assistance (Assessment of Resources) Regulations 1992

Essentially, these regulations say that a person who is in care will be assessed to make a personal contribution towards the cost of that care and only when his/her capital has fallen to  £13,500 or less will their personal contribution from capital be reduced to nil.  Where a person’s capital is over £22,250, the personal contribution will be the full cost of the care.

However, here’s the catch. A person will be treated as still owning capital if he/she has deliberately deprived himself/herself of that capital for the purpose of obtaining Local Authority funding.   Thus the parent who has gifted the house away in order to avoid it being sold to pay for his/her care still has to make a personal contribution even though he/she no longer has the house to sell in order to pay those contributions.  Moreover, in this case there is no six-month time limit on the gift.

The same rule applies to Income Support (which is the most important state benefit). Income Support will be refused in almost exactly the same circumstances as those in which a person will be assessed to pay a contribution towards the cost of their care based on their ‘notional capital’.

These problems only apply if the motive for giving the property away was to avoid liability for paying for residential or nursing home care or to increase eligibility for income support.

However, it can be difficult to establish that this was not the main or a significant motive for such a gift.

In some cases these rules might not prove to be a problem since once the parent’s actual capital has reduced to nil the Local Authority would have to provide nursing care at its own expense.  Having no capital, the parent would effectively be ‘bankrupt’ and even though the regulations say he/she is liable to pay for care, the parent would have no assets to fulfil those obligations and care would therefore be paid for at public expense.

One difficulty of relying on state assistance for residential or nursing home care is that you can only obtain the care for which the state is obliged to pay and that might not be of the same standard as care which you choose to pay for from your own resources.

Problem Number 3

The Insolvency Acts

As  mentioned in Number 2 above, the gift might ultimately have the effect of leaving the parent without any capital assets and under these circumstances the Local Authority could decide to commence bankruptcy proceedings against the parent.  This would involve applying to the Court to have the parent declared legally bankrupt following which it could ask the Court to ‘set aside’ (i.e. reverse) the gift on one of two grounds: -

      a.  that the gift was made within two years of the parent’s bankruptcy or within five years if the parent was actually insolvent when the gift was made.  In this case (i.e. if the bankruptcy occurs within two or five years of the gift) the motive for making the gift is irrelevant.

b.  that the gift was made with the intention of defrauding a creditor or future creditor (i.e. the Local Authority) at any time.  In this case the Local Authority would have to prove that the parent’s motive was to prevent the property from being available to help pay for care home fees.

If the gift were to be set aside on either of these grounds it would mean that, in effect, the child would have to return the property to the parent’s estate and, as noted above, the Local Authority would then be able to charge the property with the cost of providing for the parent’s care.

Recipient’s Problems - General

There are various risks involved in living in a property which you have gifted to another person.  One writer has expressed this problem as follows:-

In practice, children believe their parent is ready to go into care earlier than the parent himself or herself believes.  Having given his or her home away the parent is at risk of the child, in effect, turning round and forcing the parent into a home and selling the property from under his or her feet.

Moreover, even if the parent is totally satisfied that he or she will be treated fairly, there are various circumstances in which what happens to the property would no longer be under the child’s control.  These problems are outlined below.

Some protection from these problems can be obtained by transferring into a trust instead of making an outright gift to the child or some other member of the family.  Such a gift has many quite complicated implications which are outside the scope of this guide although Lawanswers are always happy to advise.

Problem Number 4

Recipient’s Bankruptcy

If the recipient of the gift becomes bankrupt then ownership of the property would pass to his or her ‘Trustee in Bankruptcy’.  The duty of the Trustee in Bankruptcy is not to the person living in the property (i.e. the parent) but to the creditors of the Bankrupt.  It is unlikely the parent would be permitted to remain in the property for more than one year from the date of the bankruptcy after which he or she would be obliged to move out so that the property could be sold for the benefit of the creditors of the bankrupt child.  This could leave the parent without a roof over their head

Problem Number 5

Recipient’s Divorce

If, after the gift has been made, the child were to be divorced then the property would form part of his/her assets for the purposes of any financial settlement and the Court has very wide powers to make whatever order it sees fit in relation to the parties’ assets.  The parent, again, could potentially be left homeless.

Problem Number 6

Recipient’s Death

If the child were to die after the gift was made then the house would form part of his or her estate even though the parent might still be living in it.  The child may or may not have had the foresight to make a Will in which the parent is  beneficiary but even if there is a Will it will not necessarily resolve the problem of the child’s executors being obliged to sell the house in order to give effect to his or her wishes.  Moreover, the vast majority of Wills can be revoked at any time so even if the child has made a suitable Will there is no guarantee that it will still be in place when he or she dies.  If the child dies intestate (i.e. without having made a Will) then in most cases the problem will probably be even worse.  There is also the possibility that the parent could find themselves living with the widow’s new spouse. 

Inheritance Tax - General

‘Lawanswers Guide to Inheritance Tax’  explains Inheritance Tax in more detail. If you have a copy of that guide, remember that a gift of this kind will probably be a ‘PET’, subject to the problems mentioned in Numbers 7 and 8 below. That guide also sets out the action which might be taken to mitigate Inheritance Tax without suffering the risks mentioned in this leaflet.

In very broad terms, Inheritance Tax is payable on the value of a person’s estate when he or she dies. The first £312,000 of a person’s estate is free of Inheritance Tax so if the whole of your estate is worth less than that amount there is no point in making a gift in order to save tax.

A gift of the kind considered in this guide can have an Inheritance Tax advantage because where a gift is made and the person making the gift survives for seven years then the gift generally falls out of account from that person’s estate for Inheritance Tax purposes. Potentially, this could save 40% of the value of the property in tax, depending on what other assets there are in the estate.

Once the seven-year ‘clock’ is running, the rate of tax on the gift can reduce on a sliding scale. This is discussed in more detail in the Inheritance Tax Guide but in practice it is quite rare for this rate-reduction to prove of much value.

Problem Number 7

Gifts With Reservation

If a person makes a gift of an asset but continues to derive some benefit from the asset then for Inheritance Tax purposes the giver^[4] is treated as if the gift had not been made.

It follows that if a parent makes a gift of a property but continues to live there then, unless the parent occupies the property as a tenant and pays a full market rent, the value of the property will still be considered to be part of the parent’s estate until he/she eventually leaves (or dies). Moreover, the seven year ‘clock’ only starts to run from the date on which the parent moves out.

Problem Number 8

Double Liability

It is important to realise that for Inheritance Tax purposes the property belongs to the recipient from the date of the gift and so

!    FROM the date of the gift

!    UNTIL the seven year clock stops running

the property would be charged to tax not only in the parent’s estate if the parent dies but also in the child’s estate if the child dies.  Remember that the seven year clock does not even start to run until the parent has moved out of the property.

Problem Number 9

Capital Gains Tax

The Principal Private Residence Exemption

Capital Gains Tax is paid on assets which have increased in value since they were originally bought.  The property in which a person lives is usually exempt from Capital Gains Tax by virtue of a rule called the ‘principal private residence exemption’ which says that if you sell your own home while you still live there (or within three years of moving out) there is no Capital Gains Tax to pay.

A gift of the kind discussed in this guide has the Capital Gains Tax problem that from the date of the gift the owner of the property would not be the person living there.  It follows from this that when the property is eventually sold any gain made from the date of the gift would be charged to Capital Gains Tax and assessed on the recipient of the gift, i.e. the child.

A discretionary trust (mentioned above) might provide some protection against this problem.

Problem Number 10

The Tax-Free Uplift

When a person dies all the capital gains on any assets which that person owned at their death are completely wiped out for Capital Gains Tax purposes.  It follows that if the parent continues to own the property for the rest of his or her life, any capital gains during his/her lifetime would be wiped out.  If the property had been given away then this ‘tax free uplift’ would not occur and the child would be charged to tax in full on any gains made between the date of the gift and the date on which the child sells the property.

Conclusion

This is only a general guide to some of the potential pitfalls associated with giving away your home and before making any decisions you should seek independent legal advice.  Lawanswers will be happy to advise you in detail and may be  able to suggest ways in which many of the risks mentioned above can be minimised 

This guide sets out Lawanswers’ understanding of the law as at 6 April 2007 and by the time you read it the law might have changed. 

^[1] A variation on such a gift is for the parent to provide cash by way of gift to the adult child to enable the child to buy a property. This guide uses the words ‘parent' and ‘child’ for simplicity but the issues are the same whoever the parties to the gift are.

^[2] The child is put at almost no risk at all (except that there might be some tax consequences) so the person who needs protecting from risk is the parent.

[3] As at 06.04.08, but these figures change at the beginning of each financial year

^[4] But the child isn’t treated as if the gift had not been made. See Number 8.