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Will I have to pay tax on a lottery win?

“Yeah, but they’ll lose half of that in taxes.” It’s something you hear all the time after people win the lottery. You might have said it yourself. But is it true, or is it unnecessarily cynical?

Lottery winnings can be a huge amount of money, so you may expect them to be taxed in much the same way as a large salary. The truth is, there is no official tax on lottery winnings, but that doesn’t mean some of your prize income won’t go to HMRC in the long run.

Lottery winnings are not taxed, but…

Officially, there is no HMRC tax on lottery winnings. The government body’s Capital Gains Tax page makes that clear, naming any income from “betting, lottery or pools winnings” as tax exempt.

This may be surprising, as other countries’ tax collectors do take money from tax winnings. In the USA, for example, lottery winnings are taxed as ordinary income, meaning 39.6% goes to the IRS.

Fortunately for UK residents, even winnings on foreign lotteries will not be subject to taxes from HMRC. People in the UK can play the eurojackpot online and take home 100% of their winnings. A eurojackpot player in, say, Portugal would have to pay 20% of that to the government.

Despite their nontaxable status, it is entirely likely that you will end up paying taxes on your lottery winnings once you put them in the bank. One way this could happen is through taxes on your savings account. An Independent Savings Account (ISA) is limited to £20,000 per year, likely to be a tiny fraction of your jackpot winnings. Anything over that will be subject to capital gains tax. Your options are either to put your money in a savings account that doesn’t accrue interest, or put your money in other kinds of investments.

Where you could lose the most money in taxes though, comes not through what you do with your money while you’re alive, but what happens to it when you die.

Inheritance tax could mean you lose big 

Known by those who oppose it as the “death tax”, inheritance tax is currently set at 40% of everything above £325,000. This may not affect everyone who dies, but it can hugely decrease the amount of wealth lottery winners pass onto their descendants.

The rules differ depending on your marital status. As this helpful Money Saving Expert guide explains, when one partner dies, they receive all their inheritance tax free. The living partner consequently doubles her or his tax-free inheritance allowance. When the second partner dies, they can pass on £750,000 tax-free.

If we’re dealing with lotto jackpot numbers in the hundreds of thousands or even millions of pounds, inheritance tax could take a huge chunk of your winnings. If you win £150 million, for example, you would have to pay £59,870,000 to the government when you die. This significantly restricts the amount you can leave to your family and friends in your will.

You’d be forgiven for thinking that a simple way to avert this would be to give those you love presents before you die. But that may be more complicated than it sounds. 

Be careful about giving presents to family 

In 2006, 83 year-old Bob Bradley became Wales’ oldest lotto jackpot winner. In a heartwarming gesture, Bradley donated most of his £3.5 million winnings to charity, and spent the rest on presents for his friends and family. “I haven’t kept any money for myself,” he said at the time. “I can just give my family all they ever wanted.”

He bought his son a £70,000 Mercedes Benz, his grandson a £500,000 home, his great grandson a £25,000 motorhome, and his great granddaughter an £8.50 rabbit (that was all she wanted).

One year later, he passed away, and that was when the trouble began for his family. Although Mr Bradley was not taxed when he received the £3.5 million, his family were facing 40% inheritance tax on the presents he bought them.

In a bid to stop people cheating inheritance tax, HMRC considers any gifts given up to seven years before an individual’s death to be inheritance. If Bob Bradley had lived to be 90, his presents would have been tax-free. But since he died just one year after buying the presents, his family had to pay up.

As The Telegraph explains, the most someone can receive as a gift before inheritance tax is applied is £3,000. Bradley’s great granddaughter won’t have to pay anything on her £8.50 rabbit, but Bradley’s grandson will face a significant fee for his £500,000 house.

The key takeaway from this story is this: spend all you like on your family, but don’t think it will help you avoid inheritance tax. If you’re buying something big, make sure you live seven years afterwards.

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