Gift with reservation or pre owned assets tax

If you give something away and keep using it, check the gift with reservation rules first. Where they apply, the asset stays in your estate for Inheritance Tax and pre owned assets tax does not apply. Pre owned assets tax is the backstop: an annual income tax charge on arrangements the reservation rules miss, most often where you funded someone else’s purchase of a home you later live in. You can elect to swap the income tax charge for reservation treatment.

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What does each charge actually tax?

The two regimes hit different taxes at different times.

	Gift with reservation	Pre owned assets tax
Law	Section 102 Finance Act 1986	Schedule 15 Finance Act 2004
Tax	Inheritance Tax	Income tax
When it bites	On death, or when the benefit stops	Every tax year the benefit continues
What is taxed	Value of the asset at death, treated as part of the estate	A deemed benefit: rental value for a home, interest at the official rate for chattels and intangibles
Who pays	Usually the recipient of the gift	The former owner, as income tax on their own income

Under section 102(3), property subject to a reservation immediately before death is treated as property to which the donor was beneficially entitled. If the reservation ends earlier, section 102(4) treats the donor as making a potentially exempt transfer at that time. The full rules are on the gifts with reservation page.

Pre owned assets tax (POAT) applies to individuals who continue to benefit from property they owned, or helped to buy, after 17 March 1986. The first year it could apply was 2005 to 2006 (IHTM44001). For a home, the charge is the appropriate rental value, R times DV divided by V, less any rent the person is legally obliged to pay (IHTM44010). For chattels it is interest at the prescribed rate on the relevant value (IHTM44016). The pre owned assets tax page covers the calculations.

Which rule takes priority?

The reservation rules. Schedule 15, paragraph 11(3) and (5)(a), switch off POAT at any time when the property would be subject to a reservation. HMRC’s example: Margaret gives her house to her son and lives there rent free. That is a gift with reservation, so there is no POAT charge (IHTM44044).

POAT is also switched off while the property is still in the person’s own estate for Inheritance Tax, for example through a qualifying interest in possession, even if no tax is actually payable because of the nil rate band or spouse exemption (IHTM44041).

The logic, in HMRC’s words, is that generally either the reservation charge or the POAT charge should apply, not both.

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When does neither charge apply?

Most of the exceptions to the reservation rules are carried into POAT, so an arrangement that is outside one is usually outside the other:

Full consideration. Paying full market rent for a home you gave away, or a full hire charge for a chattel, means no reservation and no POAT (IHTM44048). If the payments later fall below market rates, a reservation arises from that point.
Care needs. Moving back into a gifted home after an unforeseen change of circumstances, when you can no longer look after yourself because of old age or infirmity, is outside both (IHTM44048).
Sharing a home. Giving a share of your home to someone who lives there with you and shares the outgoings is outside the reservation rules under section 102B(4) and outside POAT (IHTM44047).
Exempt gifts. Gifts to charities, political parties, housing associations and similar exempt bodies are outside both (IHTM44046).
Spouse transfers. A transfer to a spouse or civil partner is an excluded transaction for POAT (IHTM44032).
Arm’s length sales. Selling your whole interest at full value to an unconnected person, or on terms such as might be expected between unconnected persons, is excluded (IHTM44031).

When does POAT apply but not the reservation rules?

The main gaps are where you did not make a gift of the asset you now use.

The contribution condition. You gave someone cash and they used it, directly or indirectly, to buy a home you later occupy (IHTM44005). A cash gift is not a reservation in the property bought, but POAT can apply. An outright gift of money is excluded only if made at least seven years before you first occupied the home after 5 April 2005 (IHTM44036).
Sales to family after earlier gifts. HMRC’s example is George selling his house to his son at full value and staying on. That is not a gift, so no reservation, and the sale is excluded from POAT, but the position would differ if George had earlier given his son the money (IHTM44031).
Structured schemes. Lease carve outs, reversionary leases and home loan or double trust schemes were designed to sidestep the reservation rules, and POAT was introduced to catch them (IHTM44100 onwards).

Lending money rather than giving it does not meet the contribution condition, because the outstanding loan stays in the lender’s estate (IHTM44005).

Is there a threshold below which POAT does not apply?

Yes. There is no charge for a year in which the total of a person’s rental values and chattel and intangible amounts does not exceed £5,000 (IHTM44056). It is a cliff edge, not an allowance: if the total is £5,001, all of it is taxable. The test uses the rental value before deducting any rent paid. Each chargeable person has their own £5,000, so a married couple equally chargeable on a home would not be liable if its annual rental value did not exceed £10,000.

Can you choose reservation treatment instead?

Yes. A person who would be subject to POAT can elect on form IHT500 to have the property treated as subject to a reservation (IHTM44070, IHTM44074). The effect is that the income tax charge stops, and the property is taxed in their estate on death if they are still benefiting, or as a deemed potentially exempt transfer if the benefit ends earlier.

The election must be made by 31 January in the tax year immediately following the first year in which the person is chargeable (IHTM44075). Someone first chargeable in 2026 to 2027 would have until 31 January 2028. HMRC can accept a late election in some cases.
You cannot elect while you are under the £5,000 limit, so the deadline does not start running until there is a taxable benefit (IHTM44071).
Each person elects separately, so spouses or civil partners who both benefit must both elect (IHTM44070).
Personal representatives cannot elect after the person has died (IHTM44075).

How do you decide which is better?

It is a comparison of a known annual cost against a possible capital charge later. Points to weigh include the person’s age and health, whether the home would fall within the nil rate band or pass to a spouse on death, the income tax rate the person pays, and whether the arrangement can be restructured to pay a full rent. After an election, once the benefit ends, the deemed potentially exempt transfer drops out of account if the person survives seven years from that date (IHTM44070).

How would this look in practice?

Illustration only. In 2021 Margot gives her daughter £300,000, which the daughter uses to buy a cottage in her own name. In 2025 Margot moves in, paying no rent. The market rent is £12,000 a year.

No reservation: Margot gave cash, not the cottage.
The contribution condition is met and the cash gift was less than seven years before she moved in, so it is not excluded.
The rental value exceeds £5,000, so POAT applies each year. Because she provided all the purchase money, the whole rental value is likely to be attributed to her contribution.
If she elects on IHT500 by the deadline, there is no income tax charge, but the cottage is treated as subject to a reservation for Inheritance Tax.

Had Margot given her own house to her daughter and stayed on rent free, the reservation rules would apply and POAT would not.

Which mistakes come up most often?

Assuming that because an arrangement escapes the reservation rules it is safe. POAT was designed for exactly those cases.
Missing the IHT500 deadline. It runs from the first year of charge, not from when an adviser spots the issue.
Treating £5,000 as a deduction rather than an all or nothing limit.
Letting a full rent arrangement drift below market value, which creates a reservation from that date.

For planning that avoids both, see gifting property to children and the seven year rule.

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Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 24 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.