Chapter 12 – Tax In The Financial Affairs Of Individuals And Trusts (10 marks)

Question 1

What must all schemes designed to avoid tax do following the Disclosure of tax avoidance schemes (DOTAS) ?

Answer 1

The schemes must be registered with HMRC, at which point they will be given a reference number

Taxpayers who use the registered scheme must then declare the reference number on their tax return

It is important to note that registration does not mean HMRC approval. The registration process brings the scheme to HMRC’s attention, possibly earlier than it would have done before introduction of DOTAS

In HMRC’s eyes schemes must follow the letter of the law and the spirit. Some schemes only follow the letter to stay legal and not the spirit (READ 12.1)

Question 2

A further extension of HMRCs powers is the General Anti-Abuse Rule (GAAR). What is this?

which applies to all tax arrangements entered into on or after 17 July 2013.

This is a special statutory rule targeting tax avoidance schemes that sit outside of general tax legislation
It applies almost as a ‘last resort’ when other tax avoidance rules prove ineffective

Answer 2

Applies to all tax arrangements entered into on or after 17 July 2013.

This is a special statutory rule targeting tax avoidance schemes that sit outside of general tax legislation

It applies almost as a ‘last resort’ when other tax avoidance rules prove ineffective

GAAR can only apply if the answer is ‘yes’ to these four questions: (SEE 12.1)

Question 3

Income tax mitigation tricks available to directors

Answer 3

They could pay their spouse a salary, although it must be fair in relation to work done

The amount could be above the Lower Earnings Limit for national insurance contributions, but below the Primary Threshold so that NIC payments aren’t actually paid

Pension contributions could then be paid, not just on behalf of the director, but on the spouse as well

Question 4

Children are each allocated their own personal allowance.

However, income of more than £100 generated from money given by parents will be taxed on those parents as opposed to the children (unless the product chosen is a Junior ISA or Child Trust Fund).

Does this rule apply if the money came from grandparents?

Answer 4

This rule does not apply where the original capital came from grandparents / uncles / aunts etc.

Question 5

What are help to save accounts?

What are the criteria?

Is it tax free?

Answer 5

Launched in 2018. Aimed at low-paid workers looking to save.

To apply for this type of bank account you will need to fulfil the following criteria.

Receiving Universal Credit, Working Tax Credit or Child Tax Credits

Max monthly deposit is £50 per month

Account is NOT tax free

But a 50% bonus, which is tax free, is added after two years

Savers can keep the money in the account after two years for a further two years or withdraw it

Over four years, the maximum saving is 48 x £50 = £2,400. This would get a tax-free bonus of £1,200

Question 6

benefits that are based on an individual’s NIC record include:

Answer 6

State Pension (best)

Contribution-based jobseekers’ allowance (again, only available having paid Class 1 NICs)

Incapacity benefit

Bereavement Support Payment

Class 3 voluntary NIC payments to help make up the missing years

Question 7

How can a will be amended following death and what are the potential tax benefits for this?

Answer 7

A Deed of Variation can be enacted up to 2 years after death and a will amended so that the result is more tax efficient (often with an inheritance ‘skipping a generation’ and going straight to younger relatives as opposed to adding to an already potentially large estate of older relatives).

Question 8

It can sometimes be more beneficial to use the NRB on first death of a spouse, rather than on the second. Why is this?

Answer 8

If the asset being transferred is expected to grow in value in excess of the growth of the NRB which, as we know, hasn’t been growing at all for a long time

If there are second marriages involved, and it is unreasonable to expect the dependants of a different family to benefit from a transferred NRB

Question 9

One additional factor to consider is the domicile status of a spouse or civil partner.

As we saw in chapter 5, non-domiciles are only subject to UK IHT on their UK situated assets. However, the rules on inter-spouse transfers are different as there is a limit on the exempt amount that can be transferred from a UK domicile to a non-UK domicile:

£325,000 (which is in addition to the NRB of the recipient)

There are a couple of potential approaches available here to mitigate this issue (SEE IMAGE) !!!!!!!

Answer 9

Elect themselves as a UK domicile for IHT purposes (they are then taxed on UK IHT on worldwide assets and it is irreversible so a big decision)

If want to remain non dom a not be taxed on worldwide assets they could make more PETs from the UK dom to non dom

Question 10

Using IHT exemptions

Each individual, UK domicile or not, has several exemptions that can use to reduce the assets in their estate, and therefore reduce an IHT liability. These include:

Using the annual exemption by gifting away £3,000 per tax year per individual
Potentially using the small gifts allowance by gifting away no more than £250 to different individuals in a tax year
There are also exemptions in the event of marriage, but these are less easy to plan a strategy for!

Using the ‘gifts out of normal expenditure’ exemption should not be forgotten…

Quite substantial regular ‘gifts’ can be made out of income as long as the individual’s standard of living is not impacted
This could include funding life assurance policies via regular premiums, with the sum assured payable to the deemed beneficiaries of the estate to help them pay any IHT liability
Gifts out of normal expenditure can also cover pension contributions, even for non-taxpayers as they can contribute up to £2,880 net on an annual basis and still receive tax relief
Alternatively, the gifts can help fund contributions to Junior ISAs / Child Trust Funds

Question 11

What do binding contracts of sale do in relation to business relief?

Answer 11

BR is where u dont pay IHT if the business property is owned for 2 years

Binding contracts of sale cause business relief to not be useable ((Because there is no flexibility in this type of agreement, it is deemed binding and therefore Business Relief is los)_

The most common example of this:
‘Buy & Sell’ share protection agreements, which comes into force on the death of a shareholder/partners

A better alternative is a ‘cross-option’ agreement which, because of the ‘option’ element is not binding; therefore, Business Relief is not impacted

Question 12

secured loans, which are deducted from the asset on which they are secured for IHT purposes, such as mortgages can help mitigate IHT

look at 12.5

Question 13

ALSO IN RELATION TO BUSINESS RELIEF

Care should also be taken about other company assets, and in-particular if they have a non-business use.

REMEMBER: NON BUSINESS USE = NO BUSINESS RELIEF

A common example of this is of a company using surplus profits to invest in other quoted shares of other companies:

The focus of the company might cease to be the trade, and become what may be regarded as an ‘investment company’ which would be ineligible for Business Relief
Companies may also hold substantial amounts of excess cash in the bank:

If it cannot be proved this cash is required for a specific business purpose, it may not qualify for Business Relief purposes

Question 14

Tom and Lucy are married with two children. Tom earns £70,000 a year, while Lucy earns £10,000 a year. Due to the level of Tom’s income they have discovered there is a tax charge against his income for the level of child benefit received. What steps can they take in the future to try and keep some or all of their child benefit:

(Choose more than one answer)

Transfer non-ISA income generating assets to Lucy

Tom could make contributions to a Venture Capital Trust

Tom could make contributions to a personal pension plan

Lucy could make contributions to a personal pension plan

Tom could make charity contributions via the gift aid system

Answer 14

A, C, & E

Tom needs to bring his ‘adjusted net income’ down to £60,000 to get the maximum child benefit.

Income amounts between £60,000 and £80,000 will allow some benefit, if not all.

Contributions to VCTs do not impact adjusted net income, as they are final ‘tax reducers’ in the income tax calculation.

The child benefit tax charge is charged on the highest earner in the relationship, so reducing Lucy’s income would not make any difference.

Question 15

Having fully used her annual gift exemption in this tax year, Anne also makes the following gifts in the current tax year:

£4,000 to her son on the occasion of his marriage
£2,000 to her god-daughter on the occasion of her marriage
£1,000 to her friend, Rita, to help with a holiday
£2,000 to the RSPCA

Ignoring the normal expenditure rules, how much of Anne’s gifts will not be exempt for Inheritance Tax?

£0

£7,250

£2,000

£1,750

Answer 15

£2,000

All of the gift to her son will be exempt, as will the gift to the RSPCA.

£1,000 of the gift to her god-daughter will be exempt, meaning £1,000 won’t.

Because the gift to Rita of £1,000 is more than £250, none of it can be regarded as a gift under the ‘small gift’ rules and so none of it will be exempt for Inheritance Tax.

£1000 + £1000

Question 16

Noel has entered into a tax avoidance scheme which has been registered under the Disclosure of Tax Avoidance Schemes (DOTAS) approach. He should be aware that

This means the scheme has been given HMRC approval

This means the scheme is currently being investigated by HMRC

This means the scheme meets EU regulations

This does not mean the scheme has HMRC approval

Answer 16

This does not mean the scheme has HMRC approval

The registration process has simply brought the scheme to HMRC’s attention, possibly earlier than it would have done in the past.

Question 17

Eric and Dorothy are married. Eric, aged 75, is in poor health and Dorothy, aged 55, is in good health. They each have around £800,000 on deposit and readily transfer assets between themselves as they want. They are going to give their son, Matthew, £500,000 in total as soon as possible. With regard to avoiding any Inheritance Tax liability at the time of the gift and the likelihood of minimising Inheritance Tax overall, how should they arrange it?

Eric should gift the £500,000 to Matthew

Dorothy should gift the £500,000 to Matthew

Eric and Dorothy should each gift £250,000

Dorothy should gift £500,000 to a discretionary trust with Matthew as a potential beneficiary

Answer 17

Dorothy should gift the £500,000 to Matthew

The key here is trying to avoid the gift (which will be a PET) into an IHT calculation on death within the next 7 years.

With Eric being in poor health, it is more likely this will happen to him, so a sensible approach would involve the gift coming from Dorothy, who is much younger and in better health.

Question 18

Ian runs his own small limited company and takes a salary that falls just within the basic rate tax band. His wife, Sonia, helps him with the administration and book-keeping within the business. From a purely tax-planning perspective it would be sensible for Ian to…

(Choose more than one option)

pay Sonia a salary above the Lower Earnings Limit but below the Primary Threshold

pay Sonia a salary above just lower than the Lower Earnings Limit

pay himself a mixture of salary and dividends

make pension contributions on behalf of himself and Sonia

equalise the salaries between himself and Sonia so that they both fall firmly within the basic rate tax band

Answer 18

A, C & D

Paying Sonia more than the LEL but lower than the PT would allow her to build up NIC credits while paying no NICs. Splitting his income between salary and dividends would also limit his NIC liability. Finally, making pension contributions would qualify for tax relief on the contributions and reduce his company’s Corporation Tax liability

Question 19

Callum, 42 and a higher rate taxpayer, is deciding between investing into a personal pension plan and an Individual Savings Account. He should be aware that…

(Choose more than one option)

he could put a higher contribution into the pension plan

the ISA offers better protection against Inheritance Tax

the tax efficient nature of the funds themselves is the same

the income taken from the pension will be less tax efficient than the ISA

he would only receive tax relief on contributions to the pension

Answer 19

A, C, D & E

It would actually be the pension plan, which is often placed in trust, that would offer better protection against IHT, at least until the benefits are crystallised (taken)

Question 20

Molly is keen to minimise her liability to Capital Gains Tax liability. She should consider investing in…

(Choose more than one option)

Index-linked gilts

Venture Capital Trusts

Furnished holiday lets

Real Estate Investment Trusts

Perpetual Subordinated Bonds

Answer 20

A, B & E

Gilts, VCTs and Perpetual Subordinated Bonds (a form of fixed interest investment and what PIBs become when the issuing building society demutualises into a bank) are all exempt from CGT

Question 21

Zoe has been rightly advised that she would be better off, on taxation grounds, if she invested in a fixed-interest Open Ended Investment Company (OEIC) rather than an onshore investment bond. She is a basic-rate taxpayer who has already used her ISA allowance this tax year. Which feature of the OEIC is most likely to be in the adviser’s mind as most important?

The control Zoe would have over any Capital Gains Tax liability

The ability to put the OEIC into trust

The setting up of the OEIC as a series of ‘sub-funds’ within the overall corporate structure

The tax efficiency of the income payments from the OEIC

Answer 21

The control Zoe would have over any Capital Gains Tax liability

A key differential is the fact that CGT is paid within the fund of an onshore bond (and therefore the owner has no control over the amount paid). With an OEIC, although the product is liable to CGT on disposal, the owner has the ability to offset losses and / or their annual exempt amount against the gain to limit any CGT liability (often to zero)

Question 22

On her death, Heather left all her assets to her husband. She owned a 50% share in a rental property as a joint tenant with her son. The total value of the property was £800,000. What Inheritance Tax, if any, is due?

£160,000

£60,000

£30,000

Nil

Answer 22

£30,000

Although Heather left ‘all her assets to her husband’ (which would all be exempt from IHT), the ‘joint tenancy’ ownership of the property means it must pass to her son.

Heather’s percentage ownership of the asset (50% = £400,000) is therefore assessed for IHT. Deducting the NRB, leaves £75,000 at the death rate of 40% giving a liability of £30,000. The RNRB is irrelevant as the property concerned is a rental property (not a main residence).

If this was a tenancy in common basis it would be different

Question 23

Sergio, who is UK domiciled is married to Karin, who is non-UK domiciled. Following his death, all of his £1,000,000 estate passes to Karin with no Inheritance Tax due. This is because

Inter-spouse transfers are always exempt from IHT

Inter-spouse transfers up to a value of £1.3m are exempt from IHT

Karin must be able to benefit from a previously transferred nil rate band

Karin must have elected to be treated as being UK domiciled for IHT purposes

Answer 23

Karin must have elected to be treated as being UK domiciled for IHT purposes

Transfers from a UK domicile to a non-UK domicile are usually not fully exempt from IHT – only the first £325,000 of the transfer (in addition to the NRB) is exempt. That is unless the recipient has previously elected to be treated as UK domicile for IHT purposes only, an election which has been possible since April 2013