Normal Expenditure Out of Income Exemption vs Annual Gift Exemption: 2026/27 Comparison

Key facts for 2026/27

• The annual gift exemption allows a fixed amount of gifts per tax year to be immediately outside the estate for Inheritance Tax purposes, with any unused amount from the previous tax year able to be carried forward for one year only — check gov.uk/inheritance-tax for the current exact annual figure, as it is not fixed within this comparison's verified rate set.
• The Normal Expenditure Out of Income exemption has no monetary cap whatsoever — gifts of any size can be fully exempt from Inheritance Tax immediately, with no 7-year survivorship period required, provided three conditions are met: the gift forms part of the giver's normal, regular pattern of expenditure; it is made out of income (not capital); and it does not reduce the giver's usual standard of living.
• Both exemptions can be used in the same tax year for different gifts, and using one does not reduce or use up the other — they operate as entirely separate reliefs.
• Unlike a Potentially Exempt Transfer (a gift that only becomes fully exempt if the giver survives 7 years), a qualifying Normal Expenditure Out of Income gift is immediately outside the estate the moment it is made, with no survivorship period at all.
• The standard Inheritance Tax nil-rate band remains £325,000 and the main IHT rate remains 40% for 2026/27 — both exemptions reduce the value of gifts that would otherwise need to survive 7 years, or be counted against the nil-rate band, to be free of IHT.

Side-by-side comparison

How the Normal Expenditure Out of Income exemption works

This exemption allows an individual to give away surplus income, of any size, entirely free of Inheritance Tax, provided three conditions are all satisfied: the gift must form part of a normal, regular pattern of expenditure for the giver (established by a habit of similar gifts, or a clear intention to make them regularly, such as under a standing order or a pattern of annual payments); it must be made out of income rather than capital (broadly, income in the everyday sense — salary, pension, rental income, dividends — rather than proceeds from selling an asset); and it must not reduce the giver's usual standard of living, meaning the giver must be able to maintain their normal lifestyle after making the gift.

Because there is no monetary cap, this exemption can be extremely valuable for individuals with income comfortably in excess of their spending needs, allowing them to pass on substantial sums over time — for example, regularly funding a grandchild's school fees, contributing to a child's mortgage, or paying into a family member's pension — with the gifted amounts falling entirely outside the estate immediately, without needing to survive the usual 7-year period that applies to most other lifetime gifts.

The trade-off is evidential: because HMRC will often scrutinise a claimed Normal Expenditure Out of Income exemption after the giver's death, executors typically need to complete form IHT403 and provide supporting evidence of income and expenditure patterns going back several years, which means the giver should ideally keep clear, contemporaneous records of the gifts made and the income they were made from throughout their lifetime.

How the simpler annual gift exemption works

The annual gift exemption allows a fixed amount of gifts each tax year to fall immediately outside the giver's estate for Inheritance Tax purposes, regardless of whether the gift comes from income or capital, and regardless of whether it is part of a regular pattern or a one-off gift. If the full amount is not used in a tax year, the unused portion can be carried forward for one further tax year only, after which it is lost.

This exemption is far simpler to use and evidence than the Normal Expenditure Out of Income exemption: there is no need to demonstrate regularity, income source, or unaffected standard of living — a straightforward record of the gift and its date is generally sufficient to support the exemption if HMRC later queries the estate.

Because the annual exemption is capped, it is most useful for smaller, one-off gifts, or as a simple, low-evidence supplement to other gifting strategies such as Potentially Exempt Transfers or a Normal Expenditure Out of Income pattern of giving.

Using both exemptions together as part of estate planning

The two exemptions are entirely independent of each other: using the annual gift exemption for one gift does not reduce the amount available under the Normal Expenditure Out of Income exemption for a separate, regular gift, and vice versa. A giver can therefore combine both in the same tax year — for example, making a capped annual exempt gift to one grandchild for a birthday, while also making a larger, regular gift out of surplus income to fund another family member's living costs.

For individuals with substantial, reliable surplus income, the Normal Expenditure Out of Income exemption is usually far more valuable in monetary terms than the capped annual exemption, since it has no ceiling at all. However, its evidential requirements mean it works best as part of a deliberate, well-documented giving strategy established well in advance, rather than as an ad hoc gift made shortly before death, which is much more likely to be challenged by HMRC for lacking an established pattern.

Anyone planning to rely on the Normal Expenditure Out of Income exemption for significant sums should keep a clear, contemporaneous record — ideally reviewed with a solicitor or tax adviser — showing the regular pattern of gifts, the income they are drawn from, and confirmation that the giver's standard of living was maintained, to give executors the best chance of successfully claiming the exemption after death.

Frequently Asked Questions