INHERITANCE TAX Flashcards
what is IHT
applies on gift of asset by an individual or trust, IHT does not apply on companies.
if an individual gifts an asset to another individual during lifetime, what will be the tax implication?
it will be called potentially exempt transfer (PET)
There will be no IHT during lifetime
however, if donor dies within 7 years after giving gift, then DEATH TAX will be payable of 40%
if donor dies after 7 years, no death tax
if an individual gifts an asset to TRUST during lifetime, what will be the tax implication?
It will be called Chargeable lifetime transfer (CLT)
Tax implication will be:
-20% if donee is paying tax
-25% if donor is paying tax
-40% if donor dies within 7 years (Lifetime tax already paid will be adjustable)
annual exemption
annual exemption of 3000 pounds is available against LIFETIME gifts.
it will automatically be deducted against first gift in a fiscal year.
unused annual allowance
can be carried forward uptill 1 year.
current AE will be used first and then b/f AE will be used
NIL RATE BAND
whenever IHT is calculated, a nil rate band of 325,000 is available.
it is available at lifetime or death.
it will be reduced by Chargeable transfers in last 7 years.
if question is silent we will assume tax on lifetime gift is being paid by
donor
can taper relief and tax already paid result in refundable tax at death?
no
what is death estate
net assets that were owned by a person at the time of death.
it is automatically treated as a gift at time of the person’s death
how is death estate distributed
according to will or rules of intestacy
is there any annual exemption on death estate
no
tax rate for death estate
40% tax rate
NRB of 325,000 will be available, reduced by last 7 yrs chargeable transfers
is there any taper relief on death estate?
no
pro forma for valuing death estate?
assets xxx
less: liabilities (xxx)
less: funeral exp (xxx)
=====================
net death estate xxx
less: exempt party (xxx)
transfers
=====================
chargeable death xxx
estate
how are assets valued at time of death
market value
how are shares and securities valued at time of death?
Lower of:
1) Quarter up rule:
Lowest quote + (Highest Quote-Lowest Quote/4)
2) Average bargain:
Lowest Bargain + Highest Bargain /2
how are mutual funds units valued at time of death?
Lowest bid price
how are debts treated at time of death?
all legal debts are deductable from death estate when calculating IHT
Gambling debts are not deductable from estate when calculating IHT ,
however if funds are remaining then gambling debt will be paid before beneficiaries receive anything
funeral expenses
deductable uptil reasonable extent
who are exempt parties in IHT
1) spouse or civil partner
2) UK registered charity
3) National institutions like national library or museums
4) Qualifying political party
if gift is made to exempt party during life or death
no IHT
transfer of nil rate band
IF DEATH TAX NRB IS NOT COMPLETELY UTILISED,
the unused NRB will be transferred to the other spouse.
however it will not be available for lifetime gifts,
it will be available on death of other spouse, when calculating death tax
Residence NRB
If a person gifts MAIN RESIDENCE to DIRECT DESCENDANTS via DEATH ESTATE, then additional NRB of 175,000 will be available. this is called residence NRB
what if value of main residence is less than 175,000
then NRB will be restricted to the value of main residence
in what case will residence NRB not be available
if a person’s net death estate (before exempt party transfer) is above 2 million pounds, then residence NRB will diminish.
1 pound for every 2 pound excess.
if after a person’s death, main residence goes to their spouse?
it will be an exempt transfer plus
when the other spouse dies and gives main residence to direct descendant, additional residence NRB of 175,000 will be available for them. (2 residence NRBs will be available on other spouse death)
what is resident property is changed after first spouse death? will 2nd R NRB be available on 2nd spouse death?
yes it will still be available
what if second spouse gets remarried, will carry forward Residence NRB be available to the third spouse?
NO. maximum two NRBs
transfer to direct descendants, or 1st NRB will be wasted.
yes 2nd NRB of second spouse will still be available.
in what scenario will IHT tax rate be reduced?
if 10% of baseline amount of death estate is donated to a UK registered charity, IHT rate will be reduced from 40% to 36%
what is base line amount?
Assets
Less Liabilities
Less funeral expenses
=Net death estate
Less exempt party transfers
=Chargeable DE
Chargeable DE
less ALL AVAILABLE NRBS
=Taxable DE
FOR BASELINE AMOUNT
add back to taxable DE:
Existing donation to charity
Residence NRB own and spouse
= BASE LINE AMOUNT
variation of will
-for tax purposes it is possible to change distribution done by a dead person through a document called “variation of will deed”
-this change is done for tax saving purpose
eg.
-additional donation to charity in order to qualify for reduced rate
-gift of main residence to direct residence
-to create generation gap (1 gen IHT will be saved) granparent to grandchild directly
when can variation of will be done
when will is made or even when there is no will and distribution is as per rules of intestacy
this means will can be changed irrespective of will made by deceased person
what are the conditions for variation of will
1- should be done within 2 years of death of donor
2- variation deed must be signed by all beneficiaries
3- variation deed should state that it is valid for CGT and IHT purpose
4- Person making variation deed should not charge any consideration for doing it.
benefits of lifetime gift
in order to encourage lifetime benefits, HMRC gives certain benefits:
1-annual exemption of 3000 pounds per year
2-no death tax after 7 yrs
3-taper relief if atleast 3 yrs have passed
4- PET, CLT value is locked and tax will be payable on locked value. if value increases, death tax will not be on increased value.
5- fall in value relief, if value falls after making lifetime gift, then tax will be paid on reduced market value.
6- in lifetime gifts, small gift exemption is also available of $250/donee/year. if excess than whole value will be taxab;e.
7- routine gift excemption (pocket money, bday gift etc)
8- marriage exemption is also available if gift is made at marriage of donee
routine gift condition
-custom, norm, practice exists
-made out of normal income of donor
-gift does not affect donor’s living standard
marriage exemption and what if gift value is above the exemption limit
-gift from parents= $5000/ parent
-from grandparents= $2500 per grand parent
-bride to groom and vice verca = $2500
-other relatives= $1000
IF excess, then only excess will be taxable
fall in value relief
if after making lifetime gift, value of asset falls, then for death tax purpose, fall in value relief will be available so that benefit of reduced value can be claimed
original PET/CLT x
less: fall in value relief (x) (old mv - current mv)
=
revised PET/ CLT (on which death tax will be charged)
HOWEVER
NRB will be consumed by original value.
what is gift with reservation
when people make lifetime gifts but continue to use them. this is considered tax avoidance.
if market rent is paid for usage of that asset then it will not be regarded as GWR
if asset is used incidentally (not planned) then no GWR
how is IHT charged in gift with reservation situation
if Gift is GWR then it remains part of donor’s estate for IHT purpose until reservation is lifted
Gift will be chargeable twice.
to avoid double tax charge, only 1 PET will be chargeable which is
higher of=
-if treated as lifetime gift
-if treated as a gift through death estate
how is IHT charged if a person removes reservation before death? (i.e stops using the gifted asset)
IHT will be higher of=
1- if treated as lifetime gift on original gift date
2- if treated as lifetime gift when reservation was lifted
multiple transfers - relief?
if an asset gets subject to IHT multipe times within 5 years due to multiple transfers, then Quick Succession Relief (QSR) will be available on it.
QSR looks at TAX DATE of two transfers, rather than actual transfer date
QSR will be deducted from tax payable
How is QSR calculated
IHT paid on first transfer/ Value of asset x Net value x QSR%
Net value= Value of asset - IHT paid on first transfer
QSR% below
QSR %
Gap between tax dates — %
0-1 year= 100%
1-2 years= 80%
2-3 years= 60%
3-4 years= 40%
4-5 years= 20%
5 years+= 0%
what is business property relief
available on gift of business during lifetime or death
it reduces the value of asset subject to IHT by either 50% or 100%
what determines percentage of BPR
1- unincorporated business (sole trader or partnership) -100%
2- unquoted company shares - 100%
3- gift of quoted company shares in which donor had control - 50%
4- gift of personal assets used in business (relevant in owner managed entities) - 50%
ownership condition for BPR,
Case for subsequent donors
Case for spouse
donor must have 2 years ownership atleast
this requirement is waived off for subsequent donors. this is called successive transfer relief
for spouse, holding period requirement and holding % requirement are considered merged
is BPR available on worldwide business?
yes
what if Donee sells business after getting gift from donor?
BPR will be withdrawn.
Donee must keep the business in ownership till death of donor.
if sold, then proceeds must be reinvested in any other qualfiying business till death of donor.
if donee fails to reinvest and donor dies, then BPR will be withdrawn.
donor keeps changing business activity before making gift and 2 years have not completed on that particular business before gifting, does tax dept cover this situation?
BPR may be available. HMRC requires that business activity should be done for atleast 2 years in last 5 years.
is BPR available on all assets of the entity?
no. BPR is only available on the business assets. no BPR on excepted assets.
excepted assets are those which are not used in business activity nor expected to be used in next 2 years.
Eg. Investment property not used in core operations
Excess cash reserve not needed for business
Eg, company owned holiday home for directors and SH
Loans given to SH or RPs, not part of business operations
Shares owned by entity for passive income like dividends, capital appreciation (if it is a subsidiary, joint venture, or shares used for trading eg. Brokerage firm then it will qualify for BPR)
how is BPR calculated if excepted assets exist
BPR =
Value of transfer * Business assets/ total assets
BPR is withdrawn
AE is available, the one which we didnt use due to transfer of asset becoming 0 due to BPR
Agricultural property relief
available on gift of agricultural assets either during life at time of death
it is 100% on agricultural value of an asset
APR is available if asset is used for personal use, in business or let out
condition of APR
ownership period of 2 years atleast if donor himself is using it (personal use or businness)
ownership requirement is increased for 7 yrs if let out
donor must have control in farming business at time of gift
is APR available worldwide
no only UK agriculture property
similarity between APR BPR
combined ownership of spouse
withdrawal of BPR
changing asset situation
diminution in value concept - problem and anti avoidance
problem=
some assets have more value if they belong to a pair or set. people gifted these assets separately rather than gifting complete set, to avoid paying IHT
anti avoidance introduced=
IHT will not be charged on value received by donee rather it will be charged on decrease in wealth of donor (IHT will be charged on donor’s perspective)
examples=
shares with control, land front n back, antique collections
loophole to anti avoidance of diminushing value concept
people used to make the first (expensive) transfer to exempt party, and then through exempt party transfer it to the original recepient
tax dept move against this loophole=
when valuing assets of donor for decrease in wealth, impact of exempt party transfers will also be considered (of last 5 yrs)
valuation formula
A/ (A+B) x Combined value
A= donor’s holding
B= related party current holding and holding in last 5 years
in case of shares, A & B refers to number of shares
in other assets A & B refers to their value
if a person is UK domicile holder then IHT implications
UK IHT will be payable on wordwide assets
If a person is non UK domicile holder
UK IHT will be paid on UK assets only
3 ways in which domicile can be gained
-by origin/ birth
-by dependency (parents)
-by choice (migration)
what is a domicile
legt status issued by UK govt, not issued by tax dept.
when can a non UK domicile holder be deemed (assumed) domicile holder FOR IHT PURPOSE?
-if they left domicile of UK, they will be deemed UK domicile holder for 3 fiscal years
-long term resident rule
2 CONDITIONS: 1)resident for atleast 15/last 20 years. 2)atleast 1/last 4 years
-born in UK rule
formerly resident of UK (left domicile)
four conditions must be met
a) born in UK
b) got domicile of origin
c) resident in current fiscal year
d) resident in any of prev two fiscal years
if an asset is subject to UK IHT and overseas IHT both
double taxation relief available
DTR will be deducted from tax
-if treaty exists between countries, then that will apply
-if no treaty then UK tax dept allows DTR at lower of:
a) UK IHT in that asset
b) overseas IHT
transaction cost incurred on overseas asset
transaction cost if adjustable at lower of:
1- actual cost
2- 5% of the value of asset
if both spouse are UK domicile holder
all transfers are exempt from UK IHT
if both husband and wife are non UK domicile holders
all transfers are exempt from UK IHT
if one spouse is domicile holder and one is non UK domicile holder
loophole= ppl transferred their assets to non domicile spouse and made gifts to others through them, to avoid paying IHT
anti avoidance=
if donor is non UK domicile is holder, whole transfer exempt
if donor is UK domicile holder and transferring to non domicile spouse, means it is now removed from scope of IHT.
now whole transfer value will not be exempt
exemption will only be of 325,000.
this amount is in addition to NRB.
how can this transfer between UKDOM and NONUKDOM spouse be exempt?
NONUKDOM spouse can make election and become UKDOM. in this case it will get exempt
however now IHT will be payable on worldwide assets
this election can be done while other UKDOM spouse is alive or uptil 2 yrs after their death
election is irrevokable and will only end if this person remains non UK resident for 4 years.
exemption limit will increase from date of election
gift by individual to trust during lifetime
treated as CLT
20% tax if paid by donee
25% tax if paid by donor
40% death tax if death within 7 years (adjustable)
gift by individual to trust after death
will be subject to IHT through death estate
if an asset is gifted by a trust?
may be in case of dissolution
IHT of 6% of value of asset
this is called exit charge
No NRB or annual exemption for trust
when does Trust have to pay IHT
every 10th anniversary, 6% IHT on total value of all assets held by trust. (principal charge)
if trust sells an asset
CGT will be assessed
CGT rates are same as individuals
in CGT, trust gets annual exemption which is 50% of individual annual exemption. (3000)
payment date of IHT
normal IHT payment date is 6 months after the month of gift or death.
exception to this rule=
lifetime tax payable on lifetime gifts made in first 6 months of fiscal year(april to sept) is due on 30 april of next year.
IHT return date
has to be submitted within 12 months after month of gift or death
under over paid tax can be adjusted, interest, penalty may be charged
can IHT be paid in installments?
normally whole amount is paid on due date.
however, it can be paid in 10 annual equal installments.
when are we allowed to pay IHT in installments?
When IHT is being paid by Donee (lifetime tax or death) and gift must be any of the following
1) land and building
2) sole trader/ partnership business
3) shares in which donor had control before making gift (for both quoted+unquoted co)
4) gift of unquoted shares where donor didnt have control but, death tax was atleast 20% of total tax on death estate
5) gift of unquoted company shares, no control of donor, however donor had atleast 10% shares and value is more than 20,000 pounds
what if donee gifts or sells asset before clearing all installments?
remaining installments will be payable immediately
who should pay IHT on lifetime gift
lifetime= both donor and donee can pay however responsibility is of donor
who pays IHT on death estate
-personal representatives of the dead person (could be relatives or lawyer)
does the rep pay out of pocket? no
-they will adjust the IHT amount from each donee’s shares
-adjusted according to proportionate value
if a person has stated that residue of death estate should be given to a particular person
residue donee will pay entire IHT
if residue is given to exempt party
we will add all the chargeable gifts at death, deduct NRB, and calculate tax through grossing up adjustment (40/60) instead of (40/100)
then to check how much residue donee is getting=
death estate less chargeable gifts less tax calculated
pippin grandpa died, leaving whole estate to his aunt, he got 75k after his death but cant remember if it came from his aunt or from grandpa’s estate
aunt had made lifetime gift of 375k 1 yr before death
IHT implication on aunt’s death?
-if it came from the estate, then it is variation of will, inheritance will not be treated as lifetime gift from aunt. no IHT liability in this case as it will be settled as part of death estate
-if it was a lifetime gift from aunt then it will be taxed at aunt’s death if she died within 7 yrs of making gift
IHT is assessed in the following manner
land & building
chattels
shares
debtors
bank account
-physical location
-physical location
-registration place of company
-location of debtor
-location of branch
