Tax Implications of Lending Money to Family
- MAZ
- 5 days ago
- 17 min read
Index:
The Audio Summary of the Key Points of the Article:
Lending to Loved Ones: What Every UK Taxpayer Needs to Know Before Handing Over Money
Now, if you’ve ever thought about giving your child a leg-up with a house deposit or helping your sibling out of a jam, you’re far from alone. Family loans have become more common than ever in Britain — especially as the Bank of Mum and Dad (and Nan, and Uncle) increasingly replaces high-street lenders. But here’s the kicker: even if it’s all in the family, HMRC might still come knocking.
Let’s make one thing clear: lending money to family isn’t automatically taxable. But — and it’s a big “but” — how you lend, whether you charge interest, whether the loan is repaid, and whether it’s documented all affect how the taxman sees it.
So the question is… Is it a gift, or is it a loan?
None of us is a tax expert, but this one detail changes everything. If HMRC classifies your transfer of money as a gift, different tax rules apply — mostly around Inheritance Tax (IHT) and potentially Capital Gains Tax. If it’s a loan, and you're expecting it to be repaid, different obligations arise — like declaring interest income if you charge interest, and proving its status to avoid IHT later.
Now let’s unpack this, one layer at a time.
What Happens if You Don’t Charge Interest on a Family Loan?
Now it shouldn’t be a surprise for you that if you lend money to a family member and don’t charge interest, HMRC may see it as a gift with a reservation of benefit — especially if the loan isn’t repaid or doesn’t include formal terms.
Here's the rule: if you give away something but still benefit from it, HMRC may treat it as though you never gave it away at all. This comes under the GWR (Gifts with Reservation of Benefit) rules in the Inheritance Tax Act 1984.
Let’s take an example.
Case Study – Uncle Barry’s Blunder: Barry lent his nephew £80,000 for a flat deposit in 2021. No interest. No loan agreement. When Barry passed away in 2024, HMRC classified the amount as a “gift with reservation.” Why? There was no evidence of intent to reclaim the loan, and his estate was over the nil-rate band. This pushed his estate into a 40% IHT bracket — meaning £32,000 tax on that loan alone.
Moral of the story? If there’s no interest and no paperwork, you may unintentionally create a taxable gift. Even worse, if you die within 7 years of the transfer (sorry - it is an awful thing to say), it may become a chargeable lifetime transfer.
Lending Large? Mind the IHT Nil-Rate Band
Let’s talk figures. As of the 2024–25 tax year, the Inheritance Tax nil-rate band remains frozen at £325,000, with an additional residence nil-rate band of £175,000 (if a property passes to a direct descendant).
Now consider this: If you lend £150,000 to your child and then die four years later, and that money hasn’t been repaid (or isn’t clearly documented as repayable), it can eat into your nil-rate band. That’s when taper relief may kick in — but only if the loan is treated as a Potentially Exempt Transfer (PET) and only if you survive between 3–7 years.
Table 1: IHT Taper Relief (2024–25)
Years between gift and death | Tax rate applied to gift |
0–3 years | 40% |
3–4 years | 32% |
4–5 years | 24% |
5–6 years | 16% |
6–7 years | 8% |
7+ years | 0% (no tax due) |
So don’t assume that just because the money is gone from your account, it’s gone from your estate. HMRC plays the long game.
IHT Taper Relief Rates Timeline
Be Careful! Interest on Loans Is Taxable Income
Here’s where many well-meaning people fall into a quiet tax trap. If you do charge interest — say you’re lending your daughter £50,000 and charging her 2% annually — then you, the lender, must declare that interest as income.
Let’s do the math:
£50,000 loan x 2% = £1,000/year in interest
You need to report that £1,000 as savings income on your Self Assessment tax return (if applicable), or it will count toward your Personal Savings Allowance.
Here’s the breakdown:
Taxpayer Type | Personal Savings Allowance (2024–25) |
Basic-rate (20%) | £1,000 |
Higher-rate (40%) | £500 |
Additional-rate (45%) | £0 |
So, if you’re a basic-rate taxpayer and you earn no other savings income, your family loan interest probably won’t trigger a tax bill. But once you’re into higher-rate territory, you could owe tax — and HMRC expects it to be reported.
So… Should You Write Up a Loan Agreement?
Absolutely, yes. Not because you don’t trust your family — but because HMRC doesn’t trust informality.
A loan agreement should include:
Names of both parties
Date of the loan
Loan amount
Repayment schedule
Interest (if any)
Consequences of default
Signatures
Even if you never intend to enforce it, this protects you — and them — from unintended tax implications. Without paperwork, HMRC might treat it as a gift. And that could backfire big time.
But What If You Never Get Repaid?
Well, here’s another twist. If a family loan becomes irrecoverable — say your son goes bankrupt, or just refuses to pay — you can’t always write it off for tax purposes. You can’t claim a “loss” on a personal loan unless you’re a commercial lender.
However, it may still be considered a PET, depending on how long you survive after making the original loan. If you survive 7 years, there’s no tax. But if you don’t, that unpaid loan might reduce your estate’s nil-rate band, creating a higher tax burden for your beneficiaries.
Watch Out for “Deliberate Deprivation” in Care Costs
None of us likes to think about getting older, but if you give or lend large sums and then apply for local authority care support, you might be investigated for deliberate deprivation of assets.
That’s right: local councils can assess whether you gave away money to avoid paying care fees, and if they think you did — even if it was a “loan” — they might treat you as if you still had that money when calculating your contributions.
So before lending tens of thousands to a grandchild, make sure it’s done for the right reasons and properly documented.
UK Family Lending Tax Implications Dashboard (2020-2024)
The Hidden Pitfalls: Rare but Real Tax Traps When Lending to Family in the UK
So the question is, how can something as generous as helping your sister buy her first home or loaning your son money to clear university debts end up causing tax headaches, legal confusion, and even family feuds?
The answer, unfortunately, lies in how HMRC and UK law interpret intent, benefit, and documentation — not just the amount or the relationship. And this is where many well-meaning Brits get blindsided by obscure but very real tax implications.
Now Consider This: If You Die Holding a Family IOU, It’s Still Part of Your Estate
Let’s say you’ve lent £90,000 to your daughter, Grace, interest-free, and she’s been paying it back in casual £500 chunks whenever she can.
If you pass away before full repayment — even if she hasn’t repaid a penny — that outstanding debt is technically part of your estate, unless you have waived it in writing.
And that, my friend, is where inheritance tax can come charging in.
What HMRC looks for:
Was there clear evidence of a loan (not a gift)?
Was there any interest charged, or expected repayment terms?
Was the loan still legally recoverable at death?
Did you benefit from the arrangement, even indirectly?
If you’ve simply said “don’t worry about paying me back,” but didn’t formalise that forgiveness in writing, then you might have unintentionally gifted the loan — creating a Potentially Exempt Transfer (PET), subject to tax if you die within seven years.
Family Loans and the “Gifts With Reservation” (GWR) Minefield
Now this bit really trips people up. You can’t give something away and still keep using it — at least not tax-free.
This rule is especially crucial if you're lending or gifting property, assets, or even cash, where the donor still benefits.
Let’s look at an example.
Case Study – Diane’s Dilemma:Diane gave her brother a £100,000 “loan” to buy a house. But she stayed in the house rent-free for two years “until she found her own place.” There was no formal loan agreement, no interest, and her brother never repaid it.
Come Diane’s death in 2024, the whole sum was deemed a GWR, because she continued benefiting from the asset — i.e., living in the house. Her estate was slapped with a 40% IHT charge on that £100,000.
So what qualifies as a GWR?
A GWR exists when:
You transfer an asset, but retain benefit from it (like continuing to live in a house or access money).
You say it’s a loan, but never enforce repayment.
You retain control over how the money is used, even after giving it.
To avoid a GWR classification, you must prove that:
The transfer was genuine (backed by a contract or loan note),
You ceased to benefit from it in any way,
The recipient has full possession and enjoyment of the gift.
You Might Be Thinking: “What if I Use a Trust Instead?”
Ah, trusts. They sound posh and clever — and done right, they can help manage wealth across generations.
But don’t be fooled. Trusts can also trigger some serious tax rules.
Here’s the deal: if you loan money to a trust, it’s treated differently than a gift to a person. There may be periodic charges (every 10 years) and exit charges when assets leave the trust — even for cash.
If you lend £200,000 to a discretionary trust set up for your grandchildren and charge no interest, HMRC may ask whether that money is a gift or a transfer of value.
Even if you lend it to the trust and charge 0% interest, there’s still risk. Why? Because HMRC looks at actual benefit and market norms — and if you gave an interest-free loan that should have yielded 4% interest, they can assess that 4% as a gift in kind every year.
Trust Tip:
If using a trust to manage a family loan, always get legal advice. Use a deed, record repayment schedules, and ensure trustees act formally. Otherwise, you’re walking into a tax minefield — especially if your estate exceeds £325,000.
Be Careful! Family Loans Can Affect Your Tax-Free Allowances Without You Realising
You probably know about the Annual Exemption of £3,000 and the Small Gifts Exemption (£250 per person per tax year), right?
But did you know these can apply to forgiven family loans?
For example, if you loan £10,000 to your niece and later tell her she doesn’t need to repay £3,000, that forgiveness could qualify under your annual exemption — but only if you haven’t used it elsewhere that year.
If not, the forgiven amount becomes a Potentially Exempt Transfer (PET) — and back into the IHT calculation it goes.
Also worth noting: you can carry forward one year’s unused £3,000 exemption. So technically, you could forgive up to £6,000 tax-free in one go if you haven’t used last year’s.
Table 2: Summary of Gift & Loan Implications by Type
Type of Transfer | Tax Treatment | Action Required |
Interest-free loan | May be treated as a PET | Formal loan agreement, clear terms |
Interest-bearing loan | Interest is taxable income | Report via Self Assessment |
Forgiven loan | Becomes a gift/PET | Use Annual Exemption if eligible |
Loan to trust | Complex — may trigger charges | Legal advice, trust deed |
GWR (e.g. gifted house still used) | Treated as part of donor’s estate | Must stop benefiting to avoid tax |
Gift & Loan Implications by Type
Here’s a Rare One: What If the Loan Is Made to Help Buy Joint Property?
Suppose you lend your son and his partner £120,000 to buy a house together. Who owns what? Who repays what?
HMRC and solicitors alike recommend a Declaration of Trust. Why? Because without one:
Your son’s partner might benefit from the loan if they break up.
You won’t have legal clarity on how much of the loan applies to your family (vs outside parties).
The loan could be interpreted as a gift to the couple, increasing the value potentially exposed to IHT.
If you later forgive the loan to your son only, without adjusting the trust deed, you could end up creating a partial gift to his ex — triggering complications none of you wanted.
Let’s Talk About Loans to Businesses Run by Family Members
This is a subtle, often-overlooked tax twist: if you lend money to your son’s limited company (say, a small café), HMRC treats this as a loan to a third party — not a family gift.
But beware:
If you waive repayment, the business must treat it as taxable income.
If you die before repayment, and the loan hasn’t been formalised, it might be excluded from your estate valuation — but not if you’ve benefited from it indirectly (e.g. by being on the payroll, receiving dividends, etc.).
So once again, paper it up. If you’re helping a family-run business, involve your accountant and make sure Companies House filings reflect the transaction.
What If the Borrower Moves Abroad?
Now this one’s more niche — but with global mobility on the rise, it’s not as rare as it used to be.
If you lend £50,000 to your daughter and she later emigrates to Australia, HMRC might still treat that loan as part of your estate — unless it’s repaid before your death or clearly documented as recoverable.
But here’s the trick: recovering debt from someone overseas is harder, and HMRC may decide the loan is irrecoverable — effectively turning it into a gift. If they do, and it’s over the nil-rate band, your estate might face a surprise IHT bill.
Moral? Get formal legal advice before lending money to family members who live — or may live — abroad.
UK Family Loan Tax Implications (2020-2025): Interactive Guide
Playing It Smart: How to Document Family Loans and Avoid Tax Trouble in the UK
Let’s be honest: giving money to your loved ones isn’t just about the cash. It’s emotional. It’s about trust. It’s about doing the right thing. But when HMRC gets involved, sentiment won’t save you from a nasty tax bill or legal wrangle.
So, the question is — how do you actually structure, document and protect these family loans so they don’t backfire later?
This section walks you through the best practices, documents, tools, and even worksheets you can use to make your lending safe, smart, and completely above board.
Now If You’re Serious About Avoiding Tax Confusion…
The first step is to stop thinking like a family member and start thinking like a bookkeeper. Because HMRC certainly will.
Here’s what you need to lock down — preferably before any money changes hands:
✔️ Loan Agreement Checklist:
Full names and addresses of both parties
Date the loan was made
Amount of the loan
Whether interest is being charged (and if so, how much)
Repayment schedule (e.g. monthly, lump sum by a certain date)
What happens if payments are missed or delayed
Whether the loan is secured (e.g. against property)
A clause on forgiveness or writing off
Signatures of both parties and ideally, a witness
You can use a solicitor for this, but a typed document signed by both parties can still carry weight with HMRC — especially if it’s consistent with how repayments are handled.
Loan Agreement Process Funnel
So the Real Power Move? Treat it Like a Mini Mortgage
You don’t need to be a banker, but the closer your loan feels like a professional agreement, the easier it is to prove it’s not a gift.
Table 3: Loan Documentation vs Tax Risk
Documentation Quality | HMRC Viewpoint | Tax Risk Level |
Fully documented loan | Clear evidence of debt | Low |
Informal with verbal terms | Risk of being reclassified as gift | Medium |
No documentation | High risk of GWR or PET treatment | High |
Forgiven without record | Treated as PET unless covered by exemptions | High |
None of us wants to end up in probate court arguing over what Aunty Maureen “meant” by that £20K she gave out of kindness. Put it in writing. Simple.
Creating a Paper Trail HMRC Can’t Ignore
It’s not just about what you write. It’s also about how consistently everything else aligns. HMRC will look at:
Bank statements: Did the money move directly between accounts?
Communication: Are there emails or texts showing it was meant as a loan?
Repayments: Are they regular? Are they traceable? Or sporadic and unclear?
Tax returns: Have you declared interest income (if any)?
Pro Tip: If you’re charging interest, include a repayment ledger. A simple Excel sheet showing payments made, interest charged, and remaining balance could make or break your case in an audit.
Here's Where Most People Slip: Mixing Loans and Gifts
You might start with a loan, then soften your stance after a few years and say, “Forget it.” That’s generous — but it triggers a whole new gift event, which restarts the seven-year IHT clock.
If you forgive a £25,000 loan five years after issuing it, the forgiven amount becomes a new PET as of the date of forgiveness — even though you originally gave the money years earlier.
That’s why it’s crucial to date and document any change in the loan status — especially if you want to claim your annual exemption against it.
Now Don’t Forget to Think Long-Term: What If You Become Ill or Pass Away?
Here’s what happens if:
You made a repayable loan, but no agreement exists
Your executor tries to collect that loan for your estate
HMRC says, “Prove it wasn’t a gift.”
If you haven’t written it down or formalised repayments, your executor could lose that fight — and your estate’s value will take the hit.
Also, consider adding a clause in your will about how you want any family loans handled — especially if they’re partially repaid, or involve multiple siblings (hello, family drama).
Your Step-by-Step Guide: Lending Money to Family — The Smart Way
Let’s break this into a real-world, practical action plan.
✅ Step 1: Decide — Loan or Gift?
If it’s a gift, see if you qualify for annual/small gifts exemptions
If it’s a loan, proceed to Step 2
✅ Step 2: Write a Loan Agreement
Use a solicitor, or a free template (many UK law firms offer them)
Include key clauses, repayment terms, and interest if applicable
✅ Step 3: Transfer the Money with a Paper Trail
Use bank transfers, not cash
Reference the transfer as “Loan to [Name]” in the transaction
✅ Step 4: Track Repayments
Use a spreadsheet or finance app
Document repayments, even if irregular
✅ Step 5: Report Taxable Interest
If you charge interest, declare it in your Self Assessment
Use your Personal Savings Allowance if applicable
✅ Step 6: Review Annually
Reassess whether the loan terms still apply
Document any changes or forgiveness clearly
✅ Step 7: Plan for the Future
Inform your executor about any outstanding loans
Consider mentioning it in your will
If your estate is over £325,000, speak to a tax adviser
Managing Family Loans Effectively
Bonus Tool: Family Loan Worksheet (Create Your Own)
You can easily set this up in Excel or Google Sheets. Use columns like:
Date | Payment Type | Amount | Interest Charged | Remaining Balance | Notes |
01/06/2023 | Loan Given | £20,000 | 0% | £20,000 | No interest, repay by 2026 |
01/12/2023 | Repayment | £2,000 | N/A | £18,000 | First repayment received |
01/06/2024 | Gift Forgiveness | £3,000 | N/A | £15,000 | Applied annual exemption |
Store this in your records with the loan agreement. It’s your best defence.
Final Thought: Don’t Let Generosity Turn Into a Tax Nightmare
Helping your family is one of the most rewarding things you can do. But the moment money leaves your account, you’re no longer just a parent, sibling, or grandparent — you’re also a lender, a taxpayer, and potentially, an HMRC case study.
So whether you’re gifting, lending, forgiving, or planning, make sure it’s all above board. That way, your act of kindness doesn’t become someone else’s problem.
Summary of All the Most Important Points Mentioned In the Above Article
Lending money to family in the UK isn’t automatically taxable, but without proper documentation, HMRC may treat it as a gift subject to Inheritance Tax (IHT).
Interest-free loans can be classed as gifts with reservation of benefit (GWR), especially if the lender continues to benefit or doesn’t enforce repayment.
If you die before the loan is repaid and it’s not clearly recoverable, it may count toward your estate and reduce your IHT nil-rate band.
Charging interest on a family loan creates taxable income for the lender, which must be reported and may be subject to income tax depending on your tax band.
Forgiving a family loan is treated as a new gift at the time of forgiveness and may trigger IHT if it exceeds annual gift exemptions and you die within seven years.
Poorly documented loans risk being reclassified as gifts, so written loan agreements, repayment schedules, and bank transfers are essential.
Using a trust to manage family loans can introduce complex tax issues like periodic or exit charges, and professional advice is crucial in such cases.
Family loans can affect eligibility for care cost support, as councils may view large transfers as deliberate deprivation of assets.
Loans to family-owned businesses or family members abroad may carry unexpected tax risks and should be handled with formal contracts and professional oversight.
To avoid disputes and tax complications, maintain a clear paper trail, declare interest where due, and include instructions in your will or estate plan.
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