4 - IHT Flashcards
IHT
What are the types of transfer and differences?
- Chargeable Lifetime Transfers (CLT) - You pay tax on these when the gift is made (if above the nil rate band) not on death, but at a lower rate of 20% (in tax tables).
- Potentially Exempt Transfers (PET) - Tax is only payable when you die, if you die within 7 years of the transfer. The rate is higher (40%) unless you give 10% of your estate to charity then it goes to 36% (all rates in tax tables).
A PET which ends up being within 7 years of your death (and so is taxable) is called a failed PET.
IHT
How is the tax on CLTs calculated?
Any CLT at any time in a persons life must be assessed for IHT.
First sum up all other CLTs in the 7 previous years to see how much nil rate band you have left.
On the portion of the new CLT that exceeds the nil rate band (£325k in tax tables) you pay tax at 20% (in tax tables).
IHT
How is tax on death calculated (on PETs and CLTs)?
On death all PETs and CLTs within 7 years before death must be assessed for IHT (so taxed again on CLTs).
First look at each gift and sum the value of transfers in the 7 years before the gift (so you could be looking up to 14 years before death) to see how much nil rate band is available for that transfer.
Charge 40% tax (or 36% with charity discount) on the excess over the NRB, but reduce using taper relief if the gift was more than 3 years before death.
For CLTs if you’ve already been taxed on them you can deduct this from tax payable on them when you die.
IHT
How does taper relief work?
Taper relief relates to tax payable on death.
If the transfer was more than 3 years before death, you get a 20% discount for each year.
So you pay 80% if it was 3-4 years before death, 60% for 4-5 years, down to zero for 7 years+.
IHT
Which transfers are CLTs and which are PETs?
Most transfers will be PETs, for example gifts to individuals, bare trusts or disabled trusts.
Gifts into other trusts (notably discretionary trusts) are CLTs.
IHT
What exemptions are there from IHT?
- Main residence (where left to direct descendant) up to £100k (in tax tables);
- Gifts between spouses (although if you are a UK domicile and spouse isn’t then gifts to them are limited to the NRB);
- Annual exemption (£3k in tax tables), can carry forward for 1 year;
- Small gifts (£250 per person you give to each tax year, in tax tables);
- Normal expenditure - Out of your income, must be regular but doesn’t need to be a fixed amount;
- Wedding gifts (amount depends on your relationship, see tax tables)
- Charity or political party gifts;
- Death on active service or responding to emergency situations.
IHT
What are the rules around UK/non-UK people?
IHT is based on your domicile rather than residency.
As with usual tax rules, UK domiciles pay IHT on global assets, non-UK domiciles only on UK assets.
However non UK domiciles can elect to be treated as UK domicile, which means they would pay IHT on global assets, but would benefit from full spouse exemption (not limited to £325k).
IHT
What is the valuation of the gift/transfer for IHT purposes?
Generally this is based on the cost to the estate (not the value to the transferee) at the time of the transfer.
In particular if you transfer a 10% shareholding when you previously held 55% of the company, you have lost a controlling share, so the value might be higher than just 10% of the company value.
Should be based on the open market value. You can deduct transfer expenses paid by transferee (eg legal costs) and CGT (if the transfer is liable to CGT and paid by the transferee).
IHT
Can the valuation of a gift/transfer change?
If the value of a transfer falls between a PET date and your death, relief may be available on the fall in value.
IHT
What are:
Gratuituous intent?
Associated operations?
- Gratuitous intent refers to the intent of the transfer. If you’re making a commercial transaction (no loss to the estate) rather than trying to give something away, you shouldn’t get taxed.
- Associated operations refers to a series of transactions that have been strung together to avoid IHT. HMRC reserve the right to group together these transactions and treat them as one operation, so that if you’re ultimate aim is to gift your assets, you’ll be taxed accordingly.
IHT
How does quick succession relief work?
If a person receives a gift from somebody who has died and tax was paid on that gift, and they subsequently die themselves shortly afterwards, a reduction in IHT is available.
This is based on the number of years between the two people dying.
The IHT due on the second death is reduced by a percentage of the tax paid on the first death (100% in first year, then 80% etc, in tax tables).
IHT
What is the calculation for quick succession relief?
Calculation is based on the amount of IHT paid on the original (i.e. first) death and the net and gross amounts they transferred to the second person (who has now also died).
IHT
What is the treatment if people die at the same time?
Generally the law assumes the eldest died first, however for IHT purposes they are assumed to die simultaneously (unless of course it can be shown that one person died first).
IHT
What reliefs can spouses share between each other?
The main one is nil rate band sharing. If one spouse dies and X% of their nil rate band doesn’t get used, their partner can extend their own nil rate band by X% when they die.
eg wife dies and uses £162.5k of the £325k band. Husband dies years later when NRB is £400k, he can use another 50%, i.e. £600k nil rate band in total.
Also get residence nil rate band transfer. £100k extra residence NRB if they died before 6/4/17, otherwise the residence NRB in place on first death.
IHT
What was the recent change regarding trusts and IHT?
Interest In Possession (IIP) trusts used to have special treatment, but are now treated the same as discretionary trusts.
IHT
What charges and taxes occur when passing on assets via discretionary trusts?
The transfer into the discretionary trust is a CLT at the time of the settlement, so IHT is due (plus death tax charge if settlor dies within 7 years).
Note that if the beneficiary dies no IHT will be due as the assets are not held by the individual but by the trust.
On the other hand there is a periodic charge every 10 years on the trustees and an exit charge if the trustees distribute or appoint capital to the beneficiaries.
IHT
A&M Trusts
These are a special type of discretionary set up from pre 22/3/16.
If they were set up before 22/3/16 they have special treatment, otherwise are treated just like other discretionary trusts.
Special treatment is that if trust assets go to the beneficiary absolutely at age 18 then there are no periodic or exit charges.
IHT - Business Relief
Minimum period you must have owned the assets
Excluded assets
Level of reliefs on asset types
Assets must have been held for at least 2 years.
Businesses mainly dealing with securities/stocks/shares trading, or land/buildings/property are excluded.
Get 100% relief on interests in unincorporated businesses or AIM shares.
Get 50% on controlling shareholdings in listed companies, or land/buildings/plant/machinery mainly used in connection with a company controlled by the transferor.
IHT - Agricultural relief
What you get relief on
Rates available
Precedence between agricultural and business relief
Get relief on agricultural land, crops and farm buildings, NOT animals or equipment. No relief on the development value of land/property.
Get 100% relief on owner occupied farms.
Get 50% relief on land let under tenancies (goes up to 100% if tenancy exceeds 12 months).
Agricultural relief gets precidence if business relief is also available.
IHT - Woodlands Relief
What is it available on?
Restrictions?
100% relief available on the value of timber, NOT the land (although the land may qualify for agricultural relief).
Only applies to transfers on death.
Business Relief
4 reasons why business relief might be withdrawn
- The company becomes listed (then can only get 50% relief and it needs to be a controlling share);
- The company ceases to engage in a qualifying trade;
- The shares become subject to a binding contract for sale at the time of death;
- Assets aren’t used for the business, or required for future use in the business.
IHT
What is a gift with reservation and what impact does it have?
A gift with reservation is when the transferor gives something away (eg a property) but retains the use or benefit of it (eg by continuing to live in the property).
If they retain benefit the value is assumed to remain in their estate, however the transfer of value at the time of the gift may create a tax charge.
Generally the tax paid on the date of the gift would be offset against the tax paid on death, but there is a potential for double tax charge here.
IHT
What is a double trust scheme?
A double trust scheme was where you sold your house into a trust, but the trust owed you the money instead of paying you.
You gift that debt to another trust with your children as a beneficiary.
At one time this might have avoided IHT charges but anti-avoidance measures mean this doesn’t work, and also stamp duty would need to be paid on the “sale”.
IHT
Treatment of life assurance policies in trust with settlor as beneficiary
Pre 22/3/16 it was possible to take out a life policy under flexible trust, with the donor as a potential beneficiary.
These should NOT be altered as under current rules the premiums would be gifts with reservation.
IHT - Pre-owned asset tax
What is it and how is it calculated?
Who does it apply to?
This is when you give away an asset (or the funds used to buy an asset) and then continue to enjoy the benefits of it (eg land, property, chattels, intangibles).
The annual value of the benefit enjoyed (less anything you pay towards it) is added to your income for tax purposes, although you pay nothing if it’s under £5k.
Applies to UK residents on disposals after 18/3/86.
Note that if you retain an interest in the asset which is consistent with the level of benefit you enjoy, there shouldn’t be any charge.
IHT - Pre-owned asset tax
How can the POAT be avoided?
You need to use form IHT500 to elect for the asset to be subject to IHT on death. This might be cheaper than paying income tax for the rest of your life.
IHT
How are life policies valued for IHT purposes when gifted (to a person or into trust)?
Standard IHT rules use the market value of the asset being transferred. This would usually be the surrender value of the policy (unless the life assured is in ill health).
However a special rule for life policies says the value transferred is the higher of surrender value and total premiums paid less any payouts to date.
IHT
When do you need to gross up transfers?
E.g. £100k is gifted from father to son
If the transferee pays the tax you don’t have to worry about grossing up.
e.g. the son receives the £100k and pays £20k as tax, so he is left with 80% of what his father has lost.
However if the transferor pays the tax it needs to be grossed up.
e.g. the son receives the £100k, if the father pays £20k tax he’s lost £120k and the son has gained £100k, so 83.33%!
So if the transferor pays tax gross up the gift (divide by 0.8 or multiply by 1.25) and then apply the tax. This higher grossed up amount is what needs to be used agains the nil rate band.
e.g. £100k * 1.25 = £125k, 20% tax is then £25k.
IHT
Who is expected to pay IHT charges and when?
For lifetime transfers the transferor is expected to pay.
If it was made between 5th April and 1st October then due 30th April the next year.
Otherwise due 6 months after the end of the month in which transfer is made.
For transfers on death the personal representative should pay and the grant of representation is not given until it is paid.
It is due 6 months after the end of the month in which transfer is made.
IHT
How can the IHT bill on death be settled in practical terms?
The personal representatives could ask the bank to pay bank account balances to HMRC to settle the IHT liability, but this isn’t always possible.
Grant of representation to administer estate can’t be granted until IHT is paid, so assets can’t be sold to pay the bill.
Personal representatives could take out a loan to pay the bill.
Or the beneficiaries can choose to pay the bill.
For some assets (such as land) there is provision for IHT payments to be made in installments.
IHT
When is residence nil rate band withdrawn?
By £1 for every £2 over £2m net estate value on death.
Note that the estate value is established before any reliefs are deducted, so if they have a large value of shares that are all subject to business relief, this could still take them over the £2m limit.
[Net estate means estate after debts are deducted, NOT after reliefs and NRB are deducted]
