Interest-Free Loan to Family Member and Capital Acquisitions Tax Small Gift Exemption

[Investor]

I know that this question has been posed before on this forum, but is anyone certain what rate should be used to calculate the notional interest foregone by a lender who provides an interest-free loan to a family member, which Revenue treats as a gift? Finding a clear answer isn’t easy.

The Revenue website states: “If you receive an interest-free loan, this is a benefit, and you may have to pay tax on it. The value of the benefit is the rate of return the funds would generate if they were invested on deposit.” However, it doesn’t specify the type of deposit or the bank.

Revenue link

In a Dáil Debate last November, Minister for Finance Michael McGrath implied that the applicable rate was the highest deposit rate available:

In the case of an interest-free loan, the person who receives the loan is deemed to take a gift for CAT purposes in each year they have the benefit of the loan. The gift is the interest-free element of the loan rather than the loan itself. The person will self-assess the value of this gift in determining whether or not any liability to CAT arises.​

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For example, in the case of a two-year loan of €335,000 from parent to child, the best deposit interest rate available in the Irish market is currently around 3%. Based on this notional deposit interest rate of 3%, the value of the interest-free element of the loan is €10,050 for one year. After deducting the small gift exemption of €3,000, CAT will be due on the balance of €7,050 at the rate of 33%, provided that this amount, when aggregated with the value of any prior gifts or inheritances from within the Group A threshold, exceeds €335,000.​

Oireachtas link​

McGrath’s response aligns with section 40 of the Capital Acquisitions Tax Consolidation Act 2003, which states that a tax-free loan “is deemed to consist of a sum equal to the difference between the amount of any consideration in money or money’s worth, given by the [lender] for [...] use, occupation or enjoyment, and the best price obtainable in the open market [my italics] for such use, occupation or enjoyment”:

Irish Statute Book link

However, in practice, this doesn’t seem to be strictly enforced. A recent Irish Times article on family loans states that “you will need to ensure you are charging at least your own bank’s demand deposit rate – which may change from time to time.”

Irish Times link

Suppose, for example, that a parent with a Bank of Ireland account extended an interest-free loan of €240,000 to a child to be repaid over two decades in monthly installments of €1,000. Applying the Bank of Ireland’s demand deposit rate as of August 2024 of 0.10%, the notional interest over the first year would total less than €240. Could the parent then effectively gift their child additional money by including a provision in the promissory note to reduce the remaining loan balance annually by an amount lower than the unused small gift exemption, say by €2,000, thereby realizing additional tax savings and decreasing the loan term from twenty years to seventeen? Or would the fact that no actual cash would change hands in such an arrangement mean that Revenue would not permit it?

 

[The Goon]

I'd be interested to get some feedback on this. Recently did some CPD where it was indicated that when determining the rate of interest, consideration should be more global and not limited to Irish institutions.

 

[TomEdison]

Suppose, for example, that a parent with a Bank of Ireland account extended an interest-free loan of €240,000 to a child to be repaid over two decades in monthly installments of €1,000. Applying the Bank of Ireland’s demand deposit rate as of August 2024 of 0.10%, the notional interest over the first year would total less than €240. Could the parent then effectively gift their child additional money by including a provision in the promissory note to reduce the remaining loan balance annually by an amount lower than the unused small gift exemption, say by €2,000, thereby realizing additional tax savings and decreasing the loan term from twenty years to seventeen? Or would the fact that no actual cash would change hands in such an arrangement mean that Revenue would not permit it?

If the loan is not repayable on demand, then the demand deposit rate is not the appropriate comparator, no matter what the Irish Times says. (The IT article may, of course, have been discussed a loan repayable on demand, so the quote about the demand deposit rate may have been taken out of context.) I think in each year you'd argue that, as the borrower can't demand repayment of the principal in that year, the appropriate way to measure the value of the loan in the current year is by comparing with the interest rates available in that year for fixed term deposits of one year or longer. Right now that would be 2% or more. So the first-year deemed gift would be maybe €4,800.

But, yes, I agree that, you can forgive €3k (or €6k, if the loan is jointly advanced by a married couple) of the outstanding principal each year. You don't have to transfer cash; you just have to document the forgiveness properly each year.

(There can be no agreement or commitment in advance to do this; you can't document up front a series of annual principal reductions of €3k or €6k. That's not a series of annual gifts; it's a single gift of the present value of the series of forgiveness amounts. So you have to decide each year to forgive €3k or €6k of principal and document that decision as a stand-alone event.)

An alternative strategy is to advance the loan on the basis that it bears interest each year at the best rate offered by the big four banks on 12-month term deposits — as noted, that would be about €4,800 in the first year. Then, each year, you forgive the interest for that year (and, if the interst for that year is less than €3k/€6k, you use the balance to foregive principal.