Most people know that IHT-free gifts require surviving seven years, but the "normal expenditure out of income" exemption under section 21 IHTA 1984 is different: gifts that qualify are immediately exempt from Inheritance Tax from the moment they are made. There is no seven-year clock, no annual cap, and no requirement to use a trust. The catch is that all three qualifying conditions -- habitual pattern, income source, and no impact on standard of living -- must be met and properly documented. This guide explains exactly how the exemption works in 2026, what records to keep, and how to make it part of a long-term IHT planning strategy.
Standard "potentially exempt transfers" (PETs) become fully IHT-free only if the donor survives seven years from the date of the gift. During those seven years, taper relief reduces (but does not eliminate) the IHT charge on a sliding scale. The normal expenditure out of income exemption sidesteps all of that: a qualifying gift is outside the estate immediately. For a retired professional with a substantial pension surplus and limited need for capital, this can eliminate tens or hundreds of thousands of pounds of IHT liability over a decade without any actuarial risk.
To illustrate: an individual with a net pension income of GBP 80,000 per year and living costs of GBP 40,000 per year has a surplus of GBP 40,000. If they give GBP 30,000 per year to their children in a regular, documented pattern, all GBP 30,000 per year is immediately exempt -- saving GBP 12,000 per year in IHT at 40%. Over 10 years, that is GBP 120,000 saved that would otherwise have gone to HMRC. The GBP 10,000 retained each year ensures they are not depleting their lifestyle.
The word "normal" in the legislation means habitual -- a regular pattern of giving rather than a one-off or ad hoc gift. HMRC's guidance and case law (Re Nadin [1951] and Bennett v IRC [1995]) confirm that the pattern can be established retrospectively over a series of gifts or prospectively through a clear intention to give regularly. The safest approach is to make gifts at a consistent frequency (monthly, quarterly, or annually), ideally by standing order, with a written record of the intention at the outset.
There is no statutory minimum number of gifts required to establish the pattern, but a single gift with no evidence of repetition is unlikely to satisfy HMRC. Two or three years of consistent giving on a documented basis is generally sufficient. Executors must be able to demonstrate the pattern when completing Form IHT403 after the donor's death.
The gifts must be funded from income -- salary, pension, rental receipts, dividends, interest, or other recurring income sources. They cannot be funded from the sale of capital assets such as shares, property, or savings accumulated from previous income. This distinction matters when reviewing bank statements: if you regularly move investments into your current account before making gifts, HMRC may argue the gifts came from capital. Ideally, gifts should flow directly from the account into which your income is paid.
After-tax income is used -- so income tax, NI, and any pension contributions are deducted before assessing your available surplus. Personal expenditure (mortgage, bills, holidays, food, clothing) is then deducted, and the gifts must come from what remains.
This condition means you must not be reducing your standard of living to make the gifts. If your income in a particular year is unusually low -- perhaps due to a bad rental year or a dividend not being paid -- and you still make the usual gift by dipping into capital, the gift in that year may not qualify under the exemption (though it may qualify under the PET rules with a seven-year clock). The test is applied year by year.
Good documentation is the difference between a successful exemption claim and an IHT bill after death. You should maintain a running schedule showing, for each tax year:
This schedule becomes the core of the IHT403 submission. You should also keep bank statements, annual income summaries (P60, pension payslips, dividend vouchers), and any letters or emails recording your intention to give regularly.
Several situations can cause HMRC to challenge a claim under this exemption:
