Introduction
In the previous two chapters, we have studied the charge to IHT both on
lifetime transfers and on death, and have looked at some exemptions and
reliefs.
In this chapter, we look at overseas aspects, including relief where property is
subject both to IHT and to a similar tax abroad.
We also look at two important sets of anti-avoidance provisions. The rules on
gifts with reservation prevent people from avoiding IHT by claiming to give
property away before death while in fact retaining rights over it. The rules on
associated operations allow HMRC to defeat tax avoidance schemes which rely
on breaking down one transaction into several artificial steps to avoid IHT.
We also consider how a will can be altered.
We review the IHT charge on gifts into discretionary trusts and the subsequent
impact of IHT on those trusts. Trusts have historically been used in estate
planning as they allow the settlor to direct how the assets should be dealt with
even after they have been given away. Even though there are periodic and exit
charges, discretionary trusts can still be used for tax mitigation.
Finally, we look at the administration and payment of IHT. This concludes our
study of IHT.
In the next chapter, we look at stamp taxes.
Study guide
| Intellectual level | ||
| 3 | Inheritance tax in situations involving further aspects of the scope of the tax and the calculation of the liabilities arising, the principles of valuation and the reliefs available, transfers of property to and from trusts, overseas aspects and further aspects of administration | |
| (a) | The contents of the Paper F6 study guide for inheritance tax under headings: | 2 |
| | D4 Payment of inheritance tax | |
| (b) | The scope of inheritance tax: | |
| (i) | Explain the concepts of domicile and deemed domicile and understand the application of these concepts to inheritance tax | 2 |
| (iii) | Identify and advise on the tax implications of the location of assets | 3 |
| (iv) | Identify and advise on gifts with reservation of benefit | 3 |
| (v) | Identify and advise on the tax implications of associated operations | 2 |
| (d) | The liabilities arising on chargeable lifetime transfers and on the death of an individual | 3 |
| (vi) | Advise on the operation of double tax relief for inheritance tax | |
| (vii) | Advise on the inheritance tax effects and advantages of the variation of wills | |
| (e) | The liabilities arising in respect of transfers to and from trusts and on property within trusts: | |
| (i) | Define a trust | 2 |
| (ii) | Distinguish between different types of trust | 3 |
| (iii) | Advise on the inheritance tax implications of transfers of property into trust | 3 |
| (iv) | Advise on inheritance tax implications of property passing absolutely from a trust to a beneficiary | 2 |
| (v) | Identify the occasions on which inheritance tax is payable by trustees | 3 |
| (g) | The system by which inheritance tax is administered, including the instalment option for the payment of tax: | |
| (i) | Identify the occasions on which inheritance tax may be paid by instalments. | 2 |
| (ii) | Advise on the due dates, interest and penalties for inheritance tax purposes. | 3 |
Exam guide
The topics covered in this chapter are mainly new at P6 and are important for tax planning questions. The anti-avoidance rules for gifts with reservation and associated operations are designed to ensure that individuals are taxed on what they have effectively given away entirely. The rules for foreign assets are beneficial to non-domiciliaries. Note, however, that you have to take positive action to change your domicile, and that the deemed domicile rules mean that it takes at least three years to escape the UK IHT net.
Trusts are useful in tax planning. The trustees retain control over assets until they deem a beneficiary to be sufficiently capable of looking after them. Be aware of the IHT implications for discretionary trusts.
The topic of inheritance tax administration was covered in the F6 syllabus and is included in this chapter. New aspects also covered in this chapter include the payment of tax by instalments, and interest and penalties. There are no changes in 2015/16 from the material studied in F6 for 2014/15. The other topics in this chapter are new.
1 Overseas aspects 6/11, 6/12, 12/12, 6/14, 6/15
1.1 Domicile
1.1.1 UK domicile
| A UK domiciled, or deemed UK domiciled, individual is subject to inheritance tax on transfers of all assets, wherever situated. |
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If an individual is UK domiciled, or deemed UK domiciled (see below), transfers of all assets, wherever situated, are subject to IHT.
Domicile for IHT has the same meaning as in general law, namely the country of one’s permanent home.
Also, an individual is deemed to be domiciled in the UK for IHT purposes:
- If the individual has been resident in the UK for at least 17 out of the 20 tax years ending with the year in which any chargeable transfer is made. The term ‘residence’ has the same meaning as for income tax (see earlier in this Text).
- For 36 months after ceasing to be domiciled in the UK under general law.
Exam focus It is important to remember that this deemed domicile rule only applies to inheritance tax. A common point exam mistake is to also apply it to capital gains tax!
FAST FORWARD An election may be made for a non-UK domiciled individual who is, or was, the spouse or civil partner of a UK domiciled individual, to be treated as UK domiciled for IHT purposes.
An individual who is:
(a) not UK domiciled, nor deemed UK domiciled, and (b) is the spouse or civil partner of a UK domiciled individual, may make an irrevocable election to be treated as UK domiciled for IHT purposes only.
The effect of the election is that transfers by the UK domiciled spouse/civil partner to the non-UK domiciled individual are wholly exempt and not subject to the restriction for transfers to a non-domiciled spouse/civil partner detailed earlier in this Text. However, the election also has the effect of bringing the non-UK domiciled individual’s assets situated outside the UK within the charge to IHT. It is therefore important to consider both these aspects before the election is made.
An election is called a ‘lifetime election’ if it is made by the non-UK domiciled spouse/civil partner in the lifetime of the UK domiciled spouse/civil partner.
An election is called a ‘death election’ if it is made after the death of the UK domiciled spouse/civil partner, where that death was on or after 6 April 2013. That deceased spouse/civil partner must have been UK domiciled within the period of seven years ending with the date of death. A death election can be made by the non-UK domiciled spouse/civil partner or his personal representatives. A death election must be made within two years of the death of the UK domiciled spouse/civil partner, or such longer period as an officer of HMRC may allow.
UK domicile is treated as taking effect on a date specified in the election. This date cannot be prior to 6
April 2013. Subject to this, the specified date can be within seven years before the date of the election
(for a lifetime election) or within seven years before the UK domiciled spouse/civil partner’s death (for a death election).
A lifetime or death election cannot be revoked. However, if the individual who made the election is not resident in the United Kingdom for the purposes of income tax for a period of four successive tax years, beginning at any time after the election is made, the election ceases to have effect at the end of that period.
1.1.2 Non-UK domicile
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Non-UK assets of individuals not domiciled in the UK are not subject to IHT.
For individuals not domiciled in the UK, only transfers of UK assets are within the charge to IHT, and even some assets within the UK are excluded property.
1.2 The location of assets
For someone not domiciled in the UK, the location of assets is clearly important:
- Land and buildings, freehold or leasehold, are in the country in which they are physically situated.
- A debt is in the country of residence of the debtor unless it is a debt evidenced by a deed, when the debt is where the deed is. Judgement debts are situated wherever the judgement is recorded.
- Life policies are in the country where the proceeds are payable.
- Registered shares and securities are in the country where they are registered, or where they would normally be dealt with in the ordinary course of business.
- Bearer securities are where the certificate of title is located at the time of transfer.
- Bank accounts are at the branch where the account is kept.
- An interest in a partnership is where the partnership business is carried on.
- Goodwill is where the business to which it is attached is carried on.
- Tangible property is at its physical location.
- Property held in trust follows the above rules regardless of the rules of the trust or residence of the trustees.
1.3 Excluded property
As we saw earlier, foreign property of a non-UK domiciled individual is excluded property so is ignored for IHT purposes. The following are also excluded property.
- Foreign assets in a trust established when the settlor was non-UK domiciled for IHT purposes. No IHT is due on the trust assets even if the settlor becomes UK domiciled at a later date.
- Certain British Government securities whose terms of issue provide that they shall be exempt from taxation so long as they are owned by non-resident individuals.
- The following savings if held by persons domiciled in the Channel Islands or the Isle of Man (the extended IHT definition of deemed domicile above does not apply):
- War savings certificates
- National Savings & Investments certificates
- Premium savings bonds
- Deposits in National Savings & Investments accounts
- SAYE savings schemes (see earlier in this Text)
- Unit trust units or shares in open ended investment companies (OEICs) held by non-UK domiciliaries.
In addition, if someone dies when neither domiciled nor resident in the UK, a foreign currency account held at a UK bank is ignored in computing his death estate.
1.4 Double taxation relief (DTR)
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Double taxation relief may reduce the IHT on assets also taxed overseas.
DTR applies to transfers (during lifetime and on death) of assets situated overseas which suffer tax overseas as well as IHT in the UK. Relief may be given under a treaty, but if not then the following rules apply.
DTR is given as a tax credit against the IHT payable on the overseas asset. The amount available as a tax credit is the lower of the foreign tax liability and the IHT (at the average rate) on the asset.
Peter died on 15 October 2015 leaving a chargeable estate of £282,000. Included in this total is a foreign asset valued at £80,000 in respect of which foreign taxes of £20,000 were paid.
Calculate the IHT payable on the estate assuming that Peter made a gross chargeable lifetime transfer of £187,000 one year before his death.
| £ | |
| IHT on chargeable estate of £282,000 | |
| (available nil rate band £(325,000 187,000) = £138,000 @ 0%, £144,000 @ 40% | 57,600 |
| (Average rate: 57,600/282,000 = 20.42553%) | |
| Less DTR: lower of: | |
| (a) £20,000 | |
| (b) £80,000 20.42553% = £16,340 | (16,340) |
| IHT payable on the estate | 41,260 |
2 Gifts with reservation 12/11, 12/13
The rules on gifts with reservation ensure that gifts which are effectively made on death or within the seven years before death, even though apparently made earlier, are taxed.
One of the competencies you require to fulfil Performance Objective 17 Tax planning and advice of the PER is to assess the tax implications of proposed activities or plans of an individual or entity with reference to relevant and up to date legislation. You can apply the knowledge you obtain from this section of the text to help to demonstrate this competence.
2.1 Introduction
There are rules to prevent the avoidance of IHT by the making of gifts while reserving some benefit. Without these rules, incomplete lifetime gifts would escape IHT by being PETs but would also reduce the individual’s estate at death. The value of the assets could thus escape tax entirely, despite the original owner deriving some benefit from them up to his death.
The obvious example is a gift of a home to the donor’s children but with the donor continuing to live in it rent free. Another example is a gift of income-producing assets, for example shares, but with the income continuing to be received by the donor.
Key term Property given subject to a reservation (gifts with reservation) is property where:
- Such property is not enjoyed virtually to the entire exclusion of the donor (in the case of land only, also the donor’s spouse or civil partner), or
- Possession and enjoyment of the property transferred is not bona fide assumed by the donee.
‘Virtually to the entire exclusion’ would, for example, allow a donor occasional brief stays in a house he had given away without creating a reservation, but spending most weekends in the house would create a reservation.
2.2 IHT consequences
Where a gift with reservation is made, it is treated in the same way as any other gift at the time it is made (as a PET or a CLT, as appropriate). However, special rules apply on the death of the donor.
- If the reservation still exists at the date of the donor’s death, the asset is included in the donor’s estate at its value at that time (not its value at the date the gift was made).
- If the reservation ceases within the seven years before death, then the gift is treated as a PET made at the time the reservation ceased. The charge is based on its value at that time. The annual exemption cannot be used against such a PET.
If the gift could be taxed as a PET or CLT when made, as well as taxed under (a) or (b) above, it will be taxed either under (a) or (b), or as a PET or CLT when made (but not both), whichever gives the higher total tax.
2.3 Exceptions
There are exceptions to the gifts with reservation rules as follows.
- A gift will not be treated as being with reservation if full consideration is given for any right of occupation or enjoyment retained or assumed by the donor (or his spouse or civil partner, in the case of land), and the property is land or chattels. For example, an individual might give away his house and continue to live in it, but pay a full market rent for doing so.
- A gift will not be treated as being with reservation if the circumstances of the donor change in a way that was unforeseen at the time of the original gift and the benefit provided by the donee to the donor only represents reasonable provision for the care and maintenance of the donor, being an elderly or infirm relative. This exception only applies to interests in land.
Exam focus Gifts with reservation of benefit were tested in December 2011 Question 2 Mirtoon. The examiner point commented that ‘the vast majority of candidates knew all about gifts with reservation and answered this part of the question well.’
| 3 Associated operations | 12/11, 6/15 |
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Associated operations (ie transactions affecting the same property) are treated as one disposition for IHT.
Key term Associated operations are:
- Two or more operations which affect the same property or one of which affects the property whilst other operations affect other property directly or indirectly representing the property, or
- Any two operations, one of which is effected with reference to the other, or with a view to enabling the other to be effected.
All associated operations are considered as one disposition. If a transfer of value has been made it is treated as made at the time of the last operation in the chain of associated operations. For this purpose, if the earlier operations themselves constituted transfers of value then the value transferred by these is deducted from the value transferred by all associated operations taken together.
The associated operations rule is a powerful weapon against schemes to avoid inheritance tax by using several transactions instead of one. For example, trustees might own some valuable paintings. They could give D, an individual, custody of the paintings for several years, on normal commercial terms (so that there would be no gratuitous intent). The trustees’ interest in the paintings would be reduced in value, because someone else had custody of them. The trustees could then give an interest in the paintings to D’s son. The value of what was given to D’s son would be lower than it would otherwise have been, saving tax. HMRC would, however, retrieve the tax by treating the arrangement with D and the gift to his son as associated operations.
4 Altering dispositions made on death 12/14
| A variation or disclaimer can be used to vary a will after death. This can have IHT and CGT consequences. |
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4.1 Introduction
|
There are two main ways in which dispositions on death may be altered: by application to the courts, and by means of a voluntary variation or a disclaimer of a legacy. Application to the courts may be made if the family and dependants of the deceased feel that the will has not made adequate provision for them. Any changes to the will made in this way will be treated for IHT purposes as if made by the deceased when writing his will.
A variation or disclaimer may be of benefit in reducing tax or in securing a fairer distribution of the deceased’s estate or both.
4.2 IHT consequences
Within two years of a death the terms of a will can be changed in writing, either by a variation of the terms of the will made by the persons who benefit or would benefit under the dispositions, or by a disclaimer, with the change being effective for IHT purposes. The variation or disclaimer will not be treated as a transfer of value. Inheritance tax will be calculated as if the terms contained in the variation replaced those in the will. If a legacy is disclaimed, it will pass under the terms of the will (or possibly under the intestacy rules) to some other person, usually the residuary legatee, and tax will apply as if the will originally directed the legacy to that new recipient.
There is a similar provision for CGT. This was covered in Chapter 13.
If the beneficiaries making the variation wish the relevant terms of the will to be treated as replaced by the terms of the variation, it is necessary to state this in the variation. The statement can apply for inheritance tax or capital gains tax or both. Where a disclaimer is made, the relevant terms in the will are automatically treated as replaced by the terms of the disclaimer for both IHT and CGT purposes, regardless of whether this is stated in the disclaimer or not.
Monty died on 13 May 2015, leaving his entire estate of £450,000 in his will to his sister, Dora. The inheritance tax payable on his estate was £50,000. It is now November 2015 and Dora wishes to pass the net assets (after payment of inheritance tax) of £400,000 from the estate to her son, Jack. Dora has not made any lifetime transfers of value. She is not in good health and may not survive until November 2022.
Show the inheritance tax consequences if either:
- Dora makes a potentially exempt transfer to Jack in November 2015, of the net assets of £400,000 from Monty’s estate, and Dora dies in May 2021;or
- Dora makes a variation of her entitlement to Monty’s estate in November 2015, such that Monty’s will is treated as leaving the entire estate to Jack, and Dora dies in May 2021.
Assume that the nil rate band and the rates of inheritance tax in 2015/16 also apply in 2021/22.
(a) Potentially exempt transfer November 2015
£
Gift 400,000
Less AE 2015/16 (3,000) AE 2014/15 b/f (3,000) PET now chargeable 394,000
IHT
£
£325,000 0% 0 £69,000 40%
£394,000
Less taper relief @ 60% (death within 5 – 6 years) (16,560) Death tax due 11,040
(b) Variation November 2015
The assets from Monty’s estate are treated as passing directly to Jack from Monty. Dora does not make a transfer of value of the assets when she makes the variation and so there is no charge to inheritance tax on her death in respect of these assets.
4.3 Other points
These provisions do not apply where the variation or disclaimer is made for consideration.
Property which is deemed to be included in an estate at the date of death because the deceased made a previous gift with reservation cannot be redirected by a deed of variation in a way which is effective for IHT purposes.
Variations or disclaimers can be made in respect of property passing under the intestacy rules in the same way as for property passing under a will, and with the same IHT and CGT consequences.
5 Trusts 12/11, 12/13
5.1 What is a trust?
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A trust is an arrangement under which a person, the settlor, transfers property to another person, the trustee or trustees, who is required to deal with the trust property on behalf of certain specified persons, the beneficiaries.
A trust may be created during the lifetime of the settlor, in which case the terms of the trust will be contained in the trust deed. Alternatively a trust may arise on the death of the settlor, in which case the terms of the trust will be laid down in the will, or by the statutory provisions which apply on an intestacy.
The first trustee will normally be specified in the trust deed or will. Trustees may retire and new trustees may be appointed, but for tax purposes they are regarded as a single continuing body of persons. The beneficiaries will also be specified in the trust deed or will. They may be separately named, ‘my daughter Ann’, or may be members of a particular class of persons, ‘my children’. The trust property will comprise the original property settled (or property replacing it), plus any property added to the trust, plus income accumulated as an addition to capital, less any amounts advanced to beneficiaries.
5.2 Example of a discretionary trust
A discretionary trust for a family may have the following provisions:
- Settlor: James Brown.
- Trustees: John Brown (son) and Jean White (daughter).
- Beneficiaries: the children and remoter issue of the settlor, and their spouses/civil partners.
- Trust property: £100,000 originally settled and any property deriving therefrom.
- Income may be accumulated for up to 21 years from the date of the settlement; subject to which it is to be distributed to the beneficiaries at the trustees’ discretion.
- Capital may be advanced to beneficiaries at the trustees’ discretion. Any capital remaining undistributed on the 80th anniversary of the date of settlement is to be distributed to the settlor’s grandchildren then living, failing which to Oxfam.
This gives the trustees complete discretion over income and capital.
5.3 Example of an interest in possession trust
An interest in possession trust may have the following provisions:
- Settlor: Alice Rawlings
- Trustees: Margaret Ashe and Crispin Armitage (solicitors)
- Trust property: 10,000 Tesco plc shares, £5,000 cash
- Beneficiaries: Ruth Bishop (daughter), Lawrence Bishop (grandson) (e) Income: payable to Ruth Bishop during her lifetime
(f) Capital: distributed to Lawrence Bishop on the death of Ruth Bishop
In this trust, the trustees have no discretion over the payment of either income or capital: both must be dealt with in accordance with the terms of the trust. Ruth Bishop has an interest in possession in the trust because she is entitled to the income of the trust now. She might also be called the life tenant of the trust because her right to income lasts for her lifetime. Lawrence Bishop has reversionary interest in the trust because he is only entitled to the capital after Ruth’s interest has come to an end. He may be called the remainderman.
5.4 Discretionary Trusts
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There is a CLT when a discretionary trust is set up. The trust suffers the IHT principal charge once every ten years and the exit charge when property leaves the trust.
5.4.1 IHT on creation of a discretionary trust
As we saw earlier in this Text, when an individual makes a gift to a discretionary trust it is a CLT for IHT purposes. If the gift is made on death, IHT is charged on the death estate in the normal way before the assets enter the trust.
5.4.2 IHT charges on a discretionary trust
The property in the trust is known as ‘relevant property’. So long as it remains relevant property it is subject to the principal charge on every tenth anniversary from the start of the trust.
If property leaves the trust (and so ceases to be relevant property) an exit charge arises. An example would be where the trustees advance capital to a beneficiary.
Exit charge before first principal charge
The amount subject to the exit charge is the amount distributed from the trust. The rate of IHT is 30% of the (lifetime) rate that would apply to a notional (ie pretend) transfer of the initial value of the trust, assuming cumulative transfers by the trust equal to those made by the settlor in the seven years prior to the setting up of the trust. Once the rate of IHT has been established, it is then further reduced by multiplying by x/40 where x is the number of complete successive quarters that have elapsed since the trust commenced.
The principal charge
IHT is charged on the value of the property in the trust at each tenth anniversary of the trust. The rate is
30% of the (lifetime) rate that would apply to a transfer of the property in the trust at the tenth anniversary, assuming cumulative transfers equal to the gross amount of any capital paid out of the trust in the previous ten years plus the settlor’s transfers in the seven years prior to the creation of the trust.
Exit charge after a principal charge
Use the rate that applied at the last tenth anniversary, reduced by multiplying by a fraction that reflects the time elapsed since the tenth anniversary. The fraction is x/40, where x is the number of complete quarters since the last tenth anniversary. If there has been a change in the nil band, the rate applied at the last tenth anniversary is recomputed using the new nil band.
Exam focus Although you must have an awareness of these exit and principal charges, you will not be expected to point perform a computation in the exam.
5.5 Interest in possession trusts
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Inheritance tax on interest in possession trusts generally applies in the same way as for discretionary trusts. The exception is where there is an immediate post death interest in possession. In this case, the trust property is treated as if it was owned outright by the beneficiary with that interest.
5.5.1 IHT on creation of an interest in possession trust
The general rule is that the property in an interest in possession trust is ‘relevant property’ (ie treated in the same way as property in a discretionary trust).
The exception to this rule is where the trust is created on the death of the settlor giving an immediate interest in possession (‘immediate post-death interest’). The property in such a trust is treated as if it is owned outright by the beneficiary with the interest in possession in the trust. Therefore, the IHT consequences of transferring property to such an interest in possession trust are the same as if the transfer had been made outright to the beneficiary with the interest in possession.
The IHT implications of the creation of an interest in possession trust can therefore be summarised as follows:
| Beneficiary with interest in possession | Created in lifetime of settlor (relevant property trusts) | Created on death of settlor with immediate post death interest in possession |
| Settlor | Chargeable lifetime transfer | Not applicable |
| Settlor’s spouse/civil partner | Chargeable lifetime transfer | Exempt transfer |
| Any other individual (eg settlor’s son) | Chargeable lifetime transfer | Chargeable death transfer |
5.5.2 IHT charges on interest in possession trust
Relevant property trusts
Such trusts are subject to principal charges and exit charges as outlined above in relation to discretionary trusts.
Immediate post death interest trusts
Since the settled property is deemed to be owned by the beneficiary with the interest in possession, when that beneficiary’s interest comes to an end the same IHT consequences occur as if that beneficiary had made a transfer of the capital of the trust.
For example, in the trust outlined in 5.3 above, if this had been created as an immediate interest in possession trust on the death of Alice Rawlings, then on the death of Ruth Bishop, Ruth will be treated as making a chargeable death transfer of the trust property to Lawrence Bishop. The settled property will be aggregated with Ruth’s own assets (her free estate) to compute the IHT and then a proportionate part of that IHT will be payable by the trustees of the interest in possession trust.
If such an interest in possession comes to an end during the lifetime of the beneficiary, for example if the beneficiary attains a specified age, there may be a lifetime transfer depending on who is then entitled to benefit under the trust. Again, remember that the beneficiary with the interest in possession is treated as making a transfer of value of the settled property.
Question Ending of interest in possession (immediate post death interest)
Verity has an interest in possession in a trust created on the death of her mother, Wendy, in August 2012. Verity is married to Simon. Verity has a brother, Mark.
On Verity’s 25th birthday on 1 May 2015, her interest in possession comes to an end under the terms of the trust.
State the IHT consequences of the ending of Verity’s interest in possession if:
- Verity becomes entitled to the trust property;
- Simon becomes entitled to the trust property; (c) Mark becomes entitled to the trust property.
- No transfer of value. Since Verity is already treated as being entitled to the trust property, there is no transfer of value when she actually becomes entitled to the trust property.
- Exempt transfer. Verity is treated as making a transfer of the trust property to Simon. Since he is her spouse, the spouse exemption applies.
- Potentially exempt transfer. Verity is treated as making a transfer of the trust property to Mark, who is another individual. If Verity dies within seven years of her 25th birthday, the transfer will become a chargeable transfer and Mark may be liable to pay IHT on the transfer.
5.6 Reasons to use trusts
| Trusts help preserve family wealth while maintaining flexibility over who should benefit. |
One of the competencies you require to fulfil Performance Objective 17 Tax planning and advice of the PER is to mitigate and/or defer tax liabilities through the use of standard reliefs, exemptions and incentives. You can apply the knowledge you obtain from this section of the text to help to demonstrate this competence.
5.6.1 Introduction
Trusts are useful vehicles for non-tax reasons such as to preserve family wealth, to provide for those who are deemed to be incapable (minors, and the disabled) or unsuitable (due to youth or poor business sense) to hold assets directly.
5.6.2 Will trusts
A discretionary trust may be set up by will. The rate of inheritance tax on principal charges and exit charges within the trust will then depend on the settlor’s cumulative transfers in the seven years before his death and the value of the trust property. The discretionary trust allows the transferee flexibility about who is to benefit from the trust and to what extent. This can be useful if there are beneficiaries of differing ages and whose financial circumstances may differ.
5.6.3 Lifetime trusts
Although gifts to trusts during lifetime can lead to an IHT charge (a CLT), there can be tax benefits from setting up trusts during the settlor’s lifetime. As long as the cumulative total of CLTs in any seven year period does not exceed the nil rate band there will be no lifetime IHT to pay on creation of the trust. The trust will be subject to IHT at 0% on the ten year anniversary and later advances, unless the value of the trust property grows faster than the nil rate band.
If a discretionary trust is used, the settlor can preserve the maximum flexibility in the class of beneficiaries and how income and capital should be dealt with.
If the settlor is included as a beneficiary of the trust the gift will be treated as a gift with reservation.
6 The administration of IHT 12/12
FAST FORWARD
IHT is administered by HMRC Inheritance Tax. The due date for payment depends on the type of event giving rise to the charge to tax.
6.1 Accounts
IHT is administrated by HMRC Inheritance Tax.
There is no system of regular returns as for income tax, corporation tax and capital gains tax. Instead, any person who is liable for IHT on a transfer is required to deliver an account giving details of the relevant assets and their value. An account delivered by the personal representatives (PRs) of a deceased person has to provide full details of the assets in the death estate. The PRs also have to include in their account details of any chargeable transfers made by the deceased person in the seven years before his death.
PRs must deliver an account within 12 months following the end of the month in which death occurred or, if later, three months following the date when they become PRs. Where no tax is due, and certain other conditions are satisfied, it is not necessary to submit an account. Estates where no account needs to be submitted are called excepted estates.
A person responsible for the delivery of an account in relation to a PET that has become chargeable by reason of death, must do so within 12 months following the end of the month in which death occurred unless already reported by the PRs.
Any other account (such as for a chargeable lifetime transfer) must be delivered within 12 months of the end of the month in which the transfer was made or, if later, within three months from the date liability to tax arose.
If a person has delivered an account and then discovers a material defect in it, he must deliver a corrective account within six months.
6.2 Power to call for documents
HMRC may require any person to provide any information, documents, etc needed for the purposes of IHT. There is a right of appeal against such an information notice.
6.3 Determinations and appeals
HMRC issue a written notice of determination where, for example, they do not agree a value of transfer or where payment of tax has not been made. It may be made on the basis of a submitted account or to the best of the inspector’s judgement.
An appeal against a notice of determination may be made to the Tax Chamber of the Tribunal within 30 days of its being served. Questions of land valuation are dealt with by the Lands Tribunal.
HMRC cannot take legal proceedings to recover tax charged by a notice of determination while an appeal is pending.
6.4 Liability for IHT
| The liability to pay IHT depends on the type of transfer and whether it was made on death. |
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On death, liability for payment is as follows.
- Tax on the free estate is paid by the PRs out of estate assets, with the burden generally falling on the residuary legatee (ie the recipient of the assets in the residue).
- Tax on property not in the possession of the personal representatives, having been transferred by the donor subject to a reservation, is payable by the person in possession of the property.
- Tax on PETs that have become chargeable is paid and borne by donees.
- Additional liabilities on CLTs must be paid and borne by the donees.
HMRC can look beyond the person primarily responsible. Most significantly a PR may become liable where the tax remains unpaid. This overall liability is limited to the value of estate assets in his possession. HMRC will not pursue the PR for tax if lifetime transfers are later discovered and the PR has made the fullest reasonably practicable enquiries to discover lifetime transfers and has obtained a certificate of discharge before distributing the estate.
If the PRs do not pay IHT due on an estate, HMRC may collect the tax from beneficiaries under the will to the extent they receive assets under the will.
The donor is primarily liable for the tax due on chargeable lifetime transfers.
6.5 Due dates
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- For chargeable lifetime transfers the due date is the later of:
(i) 30 April just after the end of the tax year of the transfer.
(ii) Six months after the end of the month of the transfer.
Interest (not tax deductible) is payable from the due date to the day before the day on which payment is made (inclusive).
- Tax arising on the free estate at death (and on gifts with reservation if the reservation still
existed at death) is payable by the PRs on delivery of their account. The time limit for this is
twelve months from the end of the month in which the death occurred. However, most PRs deliver their account before the twelve month deadline as it needs to be submitted to obtain a grant of representation (probate or letters of administration). Interest runs from six months after the end of the month when death occurred.
- Tax arising on death in respect of PETs and CLTs with additional tax is payable within six months from the end of the month of death and interest runs from this due date.
Interest (not taxable) is paid on repayments of tax from the date of payment to the date of repayment.
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Interest runs from 30 September 2015 until 31 October 2015 (inclusive). Interest = £375,000 3% 1/12 = £937
6.6 The instalment option
IHT on certain property can be paid by ten equal annual instalments on CLTs where tax is borne by the donee, or on the transfer of a person’s death estate.
The instalment option may also be used for IHT payable due to the death of the donor within seven years of making a PET. In this case, the donee must have kept the property (or replacement property qualifying for business or agricultural property relief) until the donor’s death (or his own, if earlier), and if the property qualifies under (c) or (d) below the shares must remain unquoted until the earlier of the two deaths.
The first instalment is due for payment:
- On transfers on death and liabilities arising as a result of death, six months after the end of the month of death.
- On chargeable lifetime transfers, on the normal due date.
The instalment option applies to:
- Land and buildings
- Shares or securities in a company controlled by the transferor immediately before the transfer
- Other holdings in unquoted companies where the tax on them together with that on other instalment property represents at least 20% of the total liability on the estate on a death, or where the tax cannot all be paid at once without undue hardship
- Shares in an unquoted company (including an AIM listed company) representing at least 10% of the nominal value of the issued share capital and valued for IHT purposes at not less than £20,000
- A business or an interest in a business
No interest is charged on the instalments if paid on the due dates, unless the property is land not attracting agricultural property relief, or is shares or securities of an investment company or a company whose business is wholly or mainly dealing in securities, stocks or shares or land or buildings. For such property, interest is charged on the balance outstanding, from the normal due date for paying tax in one amount.
If the property is sold, all outstanding tax must then be paid.
| | A UK domiciled, or deemed UK domiciled, individual is subject to inheritance tax on transfers of all assets, wherever situated. |
| | An election may be made for a non-UK domiciled individual who is, or was, the spouse or civil partner of a UK domiciled individual, to be treated as UK domiciled for IHT purposes. |
| | Non-UK assets of individuals not domiciled in the UK are not subject to IHT. |
| | Double taxation relief may reduce the IHT on assets also taxed overseas. |
| | The rules on gifts with reservation ensure that gifts which are effectively made on death or within the seven years before death, even though apparently made earlier, are taxed. |
| | Associated operations (ie transactions affecting the same property) are treated as one disposition for IHT. |
| | A variation or disclaimer can be used to vary a will after death. This can have IHT and CGT consequences. |
| | A trust is an arrangement under which a person, the settlor, transfers property to another person, the trustee or trustees, who is required to deal with the trust property on behalf of certain specified persons, the beneficiaries. |
| | There is a CLT when a discretionary trust is set up. The trust suffers the IHT principal charge once every ten years and the exit charge when property leaves the trust. |
| | Inheritance tax on interest in possession trusts generally applies in the same way as for discretionary trusts. The exception is where there is an immediate post death interest in possession. In this case, the trust property is treated as if it was owned outright by the beneficiary with that interest. |
| | Trusts help preserve family wealth while maintaining flexibility over who should benefit. |
| | IHT is administered by HMRC Inheritance Tax. The due date for payment depends on the type of event giving rise to the charge to tax. |
| | The liability to pay IHT depends on the type of transfer and whether it was made on death. |
Chapter roundup
Quick quiz
- How is domicile defined for IHT purposes?
- How is double taxation relief given?
- Within what time limit must a variation of a will be made?
- What is the IHT principal charge?
- What are the IHT consequences of advancing capital from a discretionary trust to a beneficiary 20 months after the tenth anniversary?
- What is the IHT consequence of creating a trust in a will which gives an immediate post death interest in possession to the spouse of the deceased settlor?
- When is lifetime inheritance tax on a chargeable lifetime transfer due for payment?
Answers to quick quiz
- Domicile for IHT is:
- domicile under the general law (permanent home) and
- deemed domicile in the UK if resident for at least 17 out of 20 tax years, and
- deemed domicile in the UK if ceased to be domiciled under general law in last 36 months
- DTR is given as a tax credit against IHT payable on the overseas asset to the extent of the lower of foreign tax and the IHT (at average rate) on it.
- A variation of a will must be made within two years of death.
- The principal charge is a charge on relevant property held in trust at each ten year anniversary of the trust.
- If capital is advanced from a discretionary trust there is an exit charge. This is calculated using the rate of tax that applied on the ten year anniversary 6/40 as between 6 and 7 quarters have elapsed since then.
- Exempt transfer as the receiving spouse is deemed to own the trust property outright (ie spouse to spouse exempt transfer).
- The due date for lifetime tax on a chargeable lifetime transfer is the later of:
- 30 April just after the end of the tax year of the transfer, and
- 6 months after the end of the month of transfer
| Number | Level | Marks | Time |
| Q19 | Introductory | 11 | 21 mins |
