WAE - Inheritance Tax

Which is the illegal form of not paying tax?

tax EVASION

When will a lifetime gift be considered a GROB?

- gift recipient does not assume bona fide possession of the property at or before the start of the relevant period (the 7-year period before the donor dies, or the date of the gift if less than 7 years before the donor dies)

- during the relevant period, the donor is not entirely excluded/virtually entirely excluded from the enjoyment of the property

When does a gift recipient have bona fide possession in the gifted property (potential GROB)?

1. has a vested, beneficial interest in the property

2. and has actual enjoyment of the property (e.g., living in it, receiving income from it)

3. and has assumed possession and enjoyment from the start of the 7-year period before the donor dies, or the date of the gift if less than 7 years before the donor dies

How can a GROB be avoided even where gift giver continues to benefit from the property?

if gift giver pays in full for their enjoyment of the asset

- e.g., continuing to live in a house they gave away, but paying market rent for it

What is the effect of a GROB if the donor was still using the benefit at the time of death?

- the value of the gifted property is included in the donor's estate for IHT purposes

- the value is the value at the date of death, not the date of gift

(it is as is it was never given away)

What is the effect of a GROB if the donor had stopped using the benefit at the date of death?

- donor is deemed to have made a PET on the date they gave up the benefit (eg moved out of the house)

- value of the PET = value of the gifted asset on that date

- if it becomes a failed PET, cannot claim annual exemption on this as there is no actual transfer of value

What capital gains tax is payable on a GROB?

- will be payable by the giver when the gift is made if value has increased since their acquisitions

- will be payable by the recipient when they later dispose of the asset if it has increased in value since they received it, even though they have themselves received no benefit from the GROB

What must you also remember about GROBs?

They are PETs (sometimes LCTs if transfers into a trust) so the 7 year rule also applies

What is the pre-owned assets charge? (POAC)

An annual tax charge on individuals who give away certain types of property but obtain a benefit from it.

- the amount is determined by quantifying the value of the benefit they receive

- applies as a second alternative to GROB rules - if GROB rules also apply, those take priority

When does the pre-owned assets charge apply?

1, an individually occupies land or has use/possession of a chattel

2. they have previously disposed of the land/chattel

OR have contributed directly/indirectly to the acquisition of the land/chattel without obtaining a beneficial interest

When does the pre-owned assets charge NOT apply?

- to property already included in the individual's IHT estate (the method for GROBs)

- if the annual charge would end up less than £5,000

- to gifts that qualify for relief from IHT (eg gifts to spouses)

- if the donor's contribution to the acquisition was more than 7 years before their occupation of the asset started

Can an individual decide whether to be charged POAC or charged for a GROB?

Yes

- if POAC would be payable, taxpayer can elect for their gift to be charged as a GROB as part of the IHT estate

When is there a restriction on the deduction of loans from the taxable death estate?

- for loans taken out to fund the acquisition, maintenance or enhancement of assets that qualify for relief (APR or BPR)

- loans that are written off rather than repaid cannot be deducted from the taxable estate (eg loans from family members)

How are loans to acquire, maintain or enhance assets that qualify for relief restricted?

- the value of the qualifying assets will be reduced by the amount of the outstanding loan before the amount of BPR/APR available is determined

e.g., T bought shares worth £100,000, and borrowed £25,000 in order to do so, and died before paying back the loan. The cost of the loan will be deducted FIRST, before applying BPR to the remaining £75,000, rather than applying automatically to the whole £100,000

- only applies to loans taken out for enhancement/maintenance for the thing qualifying for BPR/APR, not to general loans for home improvements eg

What is a settlor-interested trust?

- a trust where trust assets will or may be payable to/for the benefit of the settlor or their spouse and/or their minor children

What IHT is charged on settlor-interested trusts?

- this is taxed as a GROB

- the full value of the trust assets are taxed (not just the value of T's interest)

- even if the settlor is only a potential beneficiary in a discretionary trust among others, and may not receive any benefit

- rare example of interest in a discretionary trust being included in taxable estate

How can settlor ensure that the trust they create is not taxed as a GROB?

make it very clear in the trust deed that T cannot benefit in any way from the trust

What income tax is charged on settlor-interested trusts?

- if settlor/spouse MAY benefit

- or if a minor child DOES benefit

- trust income can be subject to income tax as though it belongs to the settlor

Is holdover relief from CGT available for settlor-interested trusts?

- if settlor/spouse MAY benefit

- or if a minor child DOES benefit

- hold-over relief will not be available for the settlor when transferring assets to the trust

What is the Disclosure of Tax Avoidance Scheme ('DOTAS')?

- legal advisers can be required to tell HMRC the details of tax avoidance schemes they offer to clients

When must advisors disclose under the Disclosure of Tax Avoidance Scheme?

- if a client obtains an 'advantage' in respect of charges relating to the value of a person's death estate, the GROB rules, and trusts

- the 'advantage' needs to be the main benefit of the arrangement

- and there should be at least one contrived step without which there would be no tax advantage.

What would not be notifiable as a tax avoidance scheme under DOTAS?

- Ordinary outright gifts, even where they are exempt.

- Executing a will, deed of variation or disclaimer which gives rise to an IHT exemption.

- Acquisition of property which qualifies for a relief or a transfer specifically provided for in the IHT legislation.

What is the general anti-abuse rule ('GAAR')?

- catches taxpayers engaged in aggressive tax avoidance schemes

When does the general anti-abuse rule (GAAR) apply?

1. taxpayer enters an arrangement which results in a tax advantage

2. Obtaining a tax advantage is a main purpose of the arrangement.

3. The arrangement is abusive (HMRC must show that the arrangement could not "reasonably be regarded as a reasonable course of action" - known as the 'double reasonableness test')

What will happen if a taxpayer is caught by GAAR?

- taxpayer is required to make reasonable adjustments to their arrangements and pay a financial penalty.

What should a solicitor bear in mind when engaging in tax planning for a client?

- actions taken to reduce IHT may result in a charge to capital gains tax and/or result in a reduction in the client's future income.

- once gifts have been made to individuals, or into a trust, it is not usually possible to get the assets or cash back, unless the beneficiary consents.

- any steps taken to reverse previous actions may themselves have further tax consequences.

- must be on notice for gifts with reservation of benefit, which will still be included in the death estate for IHT (e.g., continuing to live in the house they have given to their child)

- anti-avoidance legislation may prevent the effectiveness of certain actions.

How will CGT be chargeable on a gift made by T before they died?

T gives gift to X 10 years before they died

- increases in value during T's period of ownership would be disregarded if T had kept the property until his death

- however, as T is not the legal owner of the property when he dies, this CGT benefit is lost.

- The increase in value of the property in the 10 years since T gave it away would instead be chargeable to CGT in X's hands.

How can clients be advised to use the annual exemption?

- use the AE each year to make gifts without IHT consequences, even if the client cannot give away a large amount in one go

- appreciate that consistent giving over a number of years can enable a significant amount of money to be given away

How can clients be advised to use the family maintenance exemption?

- can use it to give loans to elderly family members who clients care for

- loan instead of gift if elderly family already has assets that exceed the NRB, as otherwise it would push them further above the band and increase their IHT liablity

How can clients be advised to use the small gifts exemption?

useful where a client has a number of potential beneficiaries e.g., children and grandchildren

most useful for Christmas/birthday presents

How can clients be advised to use the marriage exemption?

- ask about any planned marriages in the client's family and explain that this gives the opportunity to make an exempt gift

How can clients be advised to use the normal expenditure out of income exemption?

- most useful for clients who have a large income where a significant amount is unused each month

- less appropriate for asset-rich, cash-poor clients

- clients should keep a log of payments to show to HMRC, to be submitted alongside the death estate information

How can clients be advised to use the spouse exemption? (inc. for CGT)

- both parties must be long-term UK resident taxpayers

- also gives CGT exemption: assets can be transferred from one spouse to another as a "no gain and no loss" transfer

- and the CGT on the gains accrued by the donor are deferred until the donee spouse later disposes of the asset, when the recipient will be liable for the CGT

- useful if recipient spouse has a greater CGT tax free allowance

How can clients be advised to use the charity exemption?

- All transfers to charity are fully exempt

- There is no limit to the amount that can be claimed

What will be the reduction to overall IHT when T leaves 10% or more of their net estate to charity?

the chargeable part of their net estate is taxed at 36% rather than 40%

net estate = succession estate assets and assets passing by survivorship

How can clients be advised to use business and agricultural property relief?

- be careful farmhouses where surrounding land is only partly used for agriculture - may not qualify for APR

How can clients be advised to use discretionary pension lump sum payments and life insurance policies?

- these are excluded from the taxable estate

- Clients can be advised to take out life insurance and/or pay into a pension and write the benefit of these in trust.

- Where clients already have insurance or a pension in place, solicitors should advise on the terms of any lump sum payments to identify whether death benefits have been nominated for a third party. If not, clients should take steps to do so.

- If a life policy is written in trust after it has been set up there is a deemed PET of the redemption value of the policy at that date (usually a small amount).

- If a client pays the premiums on a life policy nominated for another the client is treated as making a PET of the annual premiums (although normal expenditure from income relief can usually be claimed to mitigate this).

How does insurance on a PET work?

- can take out out a fixed term life assurance specifically to cover the cost of any IHT on the PET

- would pay out a lump sum (often equivalent to the IHT liability) if the donor died within the 7 years after the transfer.

- cost would depend upon the life expectancy of the client and may be very low if the client is young and healthy.

Who are the two exempt beneficiaries?

- spouse

- charity

How long must T have owned the qualifying assets to qualify for BPR?

for a minimum of 2 years prior to death

When must T have owned the qualifying assets to qualify for APR/BPR?

- must own them at the date of their death, not the date of their will

Should clients leave assets that already qualify for relief to exempt beneficiaries (eg spouse/charity)?

No - is a waste of the relief

Can APR/BPR attach to assets in the residuary estate?

no

- the benefit of the relief will instead be apportioned between the taxable and non-taxable beneficiaries

How are specific gifts to exempt beneficiaries taxed?

- if the residue is split between exempt and chargeable Bs, the chargeables Bs will pay

- if residue goes to chargeable B, only the residue is subject to IHT

Who pays IHT and cost of transfer for the following gifts to chargeable beneficiaries:

- house to son

- residue to daughter?

- in the absence of express provision, burden of iHT falls on the residue

- so IHT for the whole estate will come out of the residue

- however, costs of transfer of any specific gift will fall on that beneficiary

- so cost of transfer of house will be paid for by the person who receives it

How are specific gifts to chargeable beneficiaries taxed, when the will states the gift is inherited subject to tax?

- if residue is going to exempt beneficiary - the IHT on the specific gift is taken out of that gift - B gets their gift less the tax due

- if residue is split between chargeable and exempt beneficiaries - both the B receiving the gift and the B receiving part of the residue will inherit subject to tax (not just residuary B)

How are specific gifts to chargeable beneficiaries taxed, when the will states the gift is inherited free of tax?

- it will still be paid from the residue, means that the exempt residuary gets less overall

- often results in more IHT being payable than if the gift was not tax-free

Will grossing up be required when:

- there is a chargeable gift intended to be given tax-free

- and the residuary is given to an exempt B?

yes, grossing up is required

Did the TNRB exist pre-2007?

did not exist

When does the amount of the NRB become fixed?

- the amount is fixed upon T's death, but cannot be calculated before then

How can married Ts use/not use their NRB efficiently?

- leave everything to exempt B so their whole NRB can be passed on to their spouse as TNRB (often better in case NRB changes in value)

- or use up full NRB by giving assets to non-exempt Bs, then leave the rest to an exempt B

What is a tax efficient scheme for unmarried couples, using a trust?

- first of the couple to die leaves an amount in a discretionary trust for benefit of the other half/any children

- when they die, their taxable estate will not include the trust assets

- but partner and children can still benefit from the assets

What is the best way to give away T's NRB to a non-exempt beneficiary?

- instead of giving a fixed sum e.g., £325,000, better to state in the will, "I give as much of my nil rate band as is available to my daughter"

- as the NRB rate may change/they may use it up

What are will trusts?

- Gifts made into trust by a testator's will

- trustees become the legal owners of the assets

- Can add to pre-existing trust or create new trust

What is required in a will for a trust to be created?

- Set out trust terms and trustees' powers

- Identify trustees, beneficiaries, and trust assets

What are the 4 main types of will trusts?

- Discretionary Trust

- Life Interest Trust

- Trusts for young people

- Trusts for disabled people

What are the tax advantages and disadvantages of creating a discretionary will trust?

X No immediate tax saving compared to outright gift

X No spouse exemption applies

✓ Beneficiaries can benefit without accumulating wealth individually

✓ Trust assets not included in beneficiaries' taxable estates upon their death

What are 2 Year discretionary will trusts?

- Intended to last only two years after testator's death

- distributions within two years treated as made under testator's will for IHT purposes (eg can claim spouse exemption, can use NRB, can also claim refund of tax paid if none is now payable)

Does the RNRB apply if T leaves their house on trust for their children? (rather than just giving it to them)

No, RNRB will not apply in this scenario

- must be left to them directly

How will a discretionary trust be taxed for IHT?

- HMRC will tax the trust rather than a trustee/beneficiary

- paid by the trustees from the trust assets

- less than if B owned the assets outright

Are ISAs part of the taxable estate for IHT?

Yes

- stocks and shares ISAs will not attract BPR

- ISAs are exempt from income tax and CGT, not IHT

What benefits do life tenants get?

- Right to occupy the property

- right to the rent from renting the property

- right to interest on savings

- dividends on shares

Can life tenants advance the trust fund to themselves?

No

Can a remainderman give away their interest in a life interest trust before death of life tenant?

Yes

Do remaindermen pay IHT if they transfer their remainder interest before the death of the life tenant?

- No, this will be exempt

- but will pay IHT if they transfer after death of life tenant, if their interest has vested

Does a remainderman in a life interest trust have a vested or contingent interest, if it is contingent on them reaching 30 and they are now 35?

- still contingent

- as their interest is also contingent on them surviving the life tenant (usually parent)

- and this has not yet happened, therefore interest has not vested yet