Tax - ALL Flashcards
On the SQE, in conjunction with which subjects will tax law be tested?
Business law, property law, and estates
On the SQE in conjunction with what subjects will income tax law be tested?
Business law only Questions could relate to income tax ramifications of payments made to employees, sole traders, partners, shareholders, lenders, and debenture holders.
What is income?
Money received on a recurring basis * Recurring may be daily, weekly, monthly, quarterly, annually. Example: an employee’s monthly salary or annual interest paid on a debenture.| Note, there is no statutory or comprehensive judicial definition
What is the difference between income and capital profits?
- Income is money received on an recurring basis and is subject to income tax* Capital profits are not recurring; they come from the sale of an asset (e.g. land, shares, or an antique) and are subject to capital gains tax rather than income tax.
What three groups of people pay income tax?
- Individuals2. Personal representatives on behalf of deceased persons (outstanding income tax and on income earned during the administration of the estate)3. Trustees on behalf of trusts
What is the tax year?
- The year of assessment for income tax runs from 6 April to 5 April i.e. the tax year 2025/26 runs from 6 April 2025 to 5 April 2026. * Taxes are assessed based on a tax year.
Who is responsible for the collection of tax?
His Majesty’s Revenue and Customs (a government body)
What are the 2 primary systems used by HMRC for the collection of tax?
- Pay As You Earn (‘PAYE’) (majority of income tax is collected by employers/pension providers using this system and then sent to HMRC)* Self-Assessment
How does the PAYE system work?
- Employers/pension providers must request a tax code from HMRC for each employee/pensioner (indicates tax free allowance and applicable tax rate)* Each payroll period, the employer must deduct the tax and National Insurance contributions from salaries of employees earning more than £184 per week. * On/before each payday, employers must send to HMRC a report (a ‘Full Payment Submission’ or ‘FPS’) of the money deducted. * Payments may be submitted to HMRC monthly (or quarterly if paying less than £1,500 per month). * If reporting and paying electronically, the report and payments must be received by the 22nd. * HMRC may assess interest and a penalty for late reports and payments.
What is the weekly earning threshold for employees, above which the employer must make deductions within the PAYE system?
£184
How is the penalty for late reports and payments of income tax calculated?
The penalty is a percentage of the payments made, and the percentage increases depending on the number of defaults e.g. it’s 1% for 1-3 defaults and 2% for 4-6
What is a Full Payment Submission?
A report sent to HMRC by employers/pension providers of the money deducted from employees’/pensionsers’ salaries
Who must use the self-assessment system for income tax?
- Taxpayers who have significant income from trading or rental profits, or who receive dividends on shares they own.* They must report all their income through self-assessment and pay taxes on the taxable income from these sources (any taxes already collected through the PAYE system will be offset at the end of the computation). * Usually sole traders or partners of a partnership - they must register with HMRC within 3 months of opening their business.
How does the self-assessment system for income tax work?
- Taxpayers submit annual tax returns, normally online.* Taxpayers are typically required to make two payments on account towards the income tax due for any year and possibly a balancing payment* Each payment on account is 50% of the previous tax year’s liability (after giving credit for tax already paid/ collected, for example, through PAYE).* Penalties are payable if tax returns are filed after the deadline, late payment and non-payment of balancing payments, carelessly incorrect/false figures
What are the deadlines for submission of the annual tax return for the self-assessment?
- Online tax returns must be filed by 31 January after the tax year e.g. for 2025/26, the deadline is 31 January 2027. * A paper return must be filed three months earlier (e.g. by 31 October 2026 for the 2025/26 tax year).
When are payments for income tax due when using the self-assessment?
- First payment: 31 January in the tax year in question. * Second payment: 31 July after the end of the tax year. * Any balancing payment required: 31 January after the end of the tax year-the same deadline as for filing an electronic return and paying the first installment for the current tax year.
When can penalties be imposed on taxpayers who self-assess?
- Tax return filed after the deadline * Late or non-payment of balancing payments of tax* Taxpayer who carelessly puts the wrong figures into their tax return may be charged up to a 30% penalty of the tax potentally lost by HMRC. * Taxpayer deliberately falsified their income figures, or purposely omitted income, then a penalty of up to 100% may be imposed
What are the three categories of income in the order they are collected?
- Non-savings income2. Savings income3. Dividend income
What are the the three categories of non-savings income?
- Earnings and pensions (including salaries, bonuses, non-cash benefits e.g. car/private medical insurance)2. Trading income (self-employed person’s income)3. Property income (rental income from land and buildings, note UK and non-UK land and property must be recorded separately)
What is savings income?
Includes interest arising from UK banks and building society accounts, credit union accounts, government or company bonds, corporate loan notes etc.
What is foreign income?
- All income arising outside the UK is called foreign income.* A person will be considered to be a UK resident if they spent 183 days or more in the UK during the tax year.
Does a UK tax resident pay UK income tax on foreign income?
Yes
What is the difference between tax exempt and zero-rated?
Tax exempt means the income is fully exempt from tax calculations and does not form part of income for the purposes of determining tax brackets. Zero-rated means the income is not exempt from tax and still forms part of the income to determine tax bracket, but it is taxed at 0%.
What are five examples of income which are exempt from income tax?
- Interest from National Savings Certificates2. Interest or dividends from an Individual Savings Account (ISA)3. Winnings on Premium Bonds or any gambling/gaming/lotteries4. Most social security benefits (universal credit, housing benefit, winter fuel allowance)5. Child benefits, child tax credit and working tax credit
Is job seekers allowance taxable?
Yes
Is state pension taxable?
Yes
What is ISA income?
- Legislation allows taxpayers to invest up to £20,000 per year in an Individual Savings Account. * There are four types of ISA accounts: cash, stocks and shares, innovative finance, and Lifetime ISAs. The income from these accounts is tax free.
How is trading income calculated?
Gross profit - (Revenue expenses that are tax allowable + Cost of capital items within AIA + Any writing down allowances) = Business profit
What are revenue expenses that are tax allowable?
- Expenses relating to running the business that are typically recurring e.g. salaries, rent, advertising, expenses, utility bills, cost of goods sold etc.* The wholly and exclusively test is used: expenses are deductible only to the extent they were incurred wholly and exclusively for business purposes (note proportionate amount of expense is allowable where expenses are for business and personal use)
A owns a dry-cleaning business as a sole trader. The business had a turnover of £200,000 during the most recent accounting period. During the year she paid £3,000 per month for rent and electricity, £2,000 per month to her only employee, and £1,000 per month for cleaning chemicals and other supplies. She also purchased a new pressing machine for £10,000. What deductions is A permitted to make when calculating her trading income?
In calculating her trading profit for the year, A may deduct as expenses the £36,000 (£3,000/ month × 12 months) for rent and electricity, the £24,000 of salary to the employee, and the £12,000 for chemicals and supplies she incurred over the year, but she may not deduct as an expense the £10,000 she paid for the new pressing machine, as it is a capital asset which is treated differently.
If an expense is incurred for both personal and business purposes, how is it dealt with in the context of deducting from trading profits?
Proportionate to amount of the expense which was for business purposes
A had a van which she used both for personal transportation and to pick up soiled clothes from the homes of customers of her dry cleaning business and to return clean clothes. She kept a log of the van’s petrol and other expenses for the year as well as details regarding overall miles and miles driven to make pick-ups and deliveries. The log shows that 80% of the miles she drove the van were on account of her business. Can she deduct any of the expenses for the van from her gross income when calculating trading income?
A may deduct the proportionate expenses of the van i.e. 80%.
What is the annual investment allowance in the context of capital assets?
- If a taxpayer buys a capital asset for their business, they may deduct all of the costs if it is plant or machinery, e.g. tools, machines, and computers up to the available allowance, but not cars, land, or buildings* AIA value will be given in question. Was £200,000 but increased to £1,000,000 from 1 April 2023.
Can any unused AIA be carried forward?
No
Similar to the annual investment allowance is the Structures and Buildings Allowance. What is the date after which construction of a structure qualifies, and what is the percentage allowance per year which can be deducted?
29 October 2018. 3% per year (excluding the cost of the land itself).
In what situation is a Writing Down Allowance available, and what are the percentage allowances which can be deducted per year for (1) life-long assets, and (2) other assets?
If the capital asset purchase exceeds the annual investment allowance (or is a car, land or building).* Life-long assets: 6% per year* Other assets: 18% per yearWriting down allowances allow tax payers to write off acquisitions over the life of the asset.
C is a self-employed courier. She started trading two years ago when she bought a new car for £18,750. This is the only plant and machinery used in her trade. In calculating trading profits, is C entitled to any allowances for the car?
C would be able to write down 18% of the car’s value (£3,375) in her first tax year. After claiming the allowance, the car would now have a tax value of £15,375 (£18,750 cost - £3,375 allowance). In her second tax year, she could take a writing down allowance of 18% of the car’s then-current cost basis (that is, 18% of £15,375 = £2,768). In her third tax year, she would be able to write down 18% of the car’s then-current basis (18% of £12,607) and take that as an allowance, and so on.
In the context of the Writing Down Allowance, how are assets aggregated into pools and if pooled, what is the deduction based on?
Life-long assets at 6% (‘special rate pool’) and other assets at 18% (‘main/standard pool’) are pooled separately.The deduction is based on the current tax value of all the assets in the relevant pool. The value of the pool is decreased by the writing down allowance claimed each year.
Does a partnership pay taxes?
No, but it must file a partnership tax return, declaring the partnership’s income, expenses, and deductions and clearly shows the net income of the partnership and each partner’s share of the income. This is for informational purposes only.
What are partners in a partnership taxed on?
- Salary paid by partnership (only if applicable)* Interest on capital account i.e. money contributed to partnership (only if applicable)* Entire share of partnership profit (even if not distributed)
A, B and C are in partnership. The partnership agreement provides that they will share profits on a 3:2:5 basis. The tax adjusted profits for the year are £150,000. The partners agreed to distribute £100,000 of the profit to themselves and retain £50,000 for expansion of the business. How much tax is each partner liable for?
A will be liable to tax on £45,000 (3/10ths of £150,000); B will be liable to tax on £30,000 (2/10ths of £150,000), and C will be liable to tax on £75,000 (5/10ths of £150,000). It does not matter that the partners did not actually distribute all £150,000.
In the case of a partnership, how are partnership profits split for income tax purposes where one of the partners also receives either (1) a salary or (2) interest on capital contributions?
The salary and/or interest are allocated to the partner first, and then the net amount is distributed as partnership profits.
A, B and C are in partnership. The partnership agreement provides that they will share profits on a 3:2:5 basis. The tax adjusted profits for the year are £150,000. B is entitled to a salary of £20,000 whilst C has £10,000 as interest on her capital account. How much tax is each partner liable for?
After we allocate these sums to B and C, £120,000 remains to be distributed to the partners on their agreed 3:2:5 basis (A: £36,000, B £24,000, and C £60,000). Thus, A will be liable to tax on £36,000 (her profit share), B will be liable to tax on £44,000 (£20,000 salary + £24,000 profit share), and C will be liable to tax on £70,000 (£10,000 interest plus £60,000 profit share).
In the context of the overlap profit problem, what is a taxpaying business’s basis period?
Where a business has an accounting period which is different to the tax year of April 6 to April 5, the period of their accounting period which overlaps with a relevant tax period is the basis periodE.g.:- Accounting period: Jan 1, 2023 - Dec 31, 2023;- Basis period is Jan 1, 2023 - April 5, 2023 as part of the 2022/23 tax year.
What are overlap profits?
Where a business has an accounting period which is different to the tax year of April 6 to April 5, and does not make up accounts to April 5 of that year, some profits made in the business’s first and second year of trading will be taxed twice
Only when are overlap profits usually recoverable?
Not until trade ceases, or if the business moves their accounting date closer to April 5
How is income tax calculated for the purposes of the self-assessment?
- Add up all income (non-savings, savings, and dividend) to get Gross Income* Subtract out any interest on qualifying loans/allowable losses to get Net Income* Subtract out any allowances (personal, marriage, and/or blind person allowance) to get Taxable Income* Multiply the income in each category by the tax applicable to that category.* Subtract out any tax already paid at source (e.g. PAYE system). If the result of the calculation is positive, that is the amount the taxpayer still owes. If it is negative, that is the amount repayable to them.
On what three qualifying loans can a taxpayer offset the interest paid against gross income?
Loans used to fund:1. Capital contributions or loans to a partnership (e.g. lawyer who is a partner in a law firm)2. Investments in a closed trading company3. Payments of inheritance tax for personal representativesGross income - interest on qualifying loans = net income
What is a Personal Allowance?
- An entitlement of individual taxpayers (including sole traders and partners). Tax is only paid on income that exceeds this amount (subject to reduction taper)* The amount is changed annually For the 2021/22 tax year, the personal allowance was set at £12,570. * The personal allowance is tapered (that is, reduced) by £1 for every £2 of income above £100,000.
To what degree is the income tax personal allowance (currently £12,570) tapered for income above £100,000, and therefore at what level of income is the personal allowance reduced to £0?
The income tax personal allowance is reduced by £1 for every £2 above £100,000. Therefore, the allowance is reduced to £0 for incomes of £125,140 and above.
D’s taxable income is £120,000. The personal allowance is £12,570. How much of the personal allowance is D entitled to?
£2,570
What does the Marriage Allowance allow?
It allows a person to transfer part of their personal allowance to their spouse or civil partner if 3 conditions are metThe spouse receives a credit of 20% of the amount transferred against tax owed i.e. we don’t just add the value of the allowance to the recipient spouse’s allowance.
What three conditions must be met to transfer under the Marriage Allowance?
- Could must be married or in a civil partnership2. Transferring spouse’s income must be less than the personal allowance3. Recipient spouse must be a basic rate taxpayer
How does the Marriage Allowance actually operate in practice? Does the recipient spouse get an additional amount on their personal allowance?
No. They simply get an income tax reduction for 20% of the amount transferred, directly applied to their tax liability.Example: using 2021/22 figures, the transferring spouse would have an allowance of £11,310 (£12,570 - £1,260) and the transferor spouse would be entitled to an income tax liability reduction of 20% of the amount transferred (for tax year 2021/22 that’s 20% x £1,260 = £252).
Why is the marriage allowance is set up as a tax reduction (rather than as an increase to the transferee spouse’s personal allowance)?
To prevent the receiving spouse from obtaining a refund based on the transferred allowance.
Are there any tax exempt allowances available for savings and dividends income?
No, there are additional allowances but they are taxed at 0%. The amount of the allowances depends on the tax band the taxpayer is in.
What are the three tax bands called, what are the monetary thresholds, and what are the percentage rates applying to each?
- Basic rate band: £1 - £37,700 – 20%2. Higher rate band: £37,701 - £150,000 – 40%3. Additional rate band: £150,000 and above – 45%Note: these bands apply to taxable income i.e. after allowances (personal, marriage) have been deducted.
T is a sole trader. His taxable income (all derived from trading) is £170,000. What is his tax liability?
He will not benefit from a Personal Allowance as his income is too high. T is an additional rate taxpayer. His tax liability is:* 20% tax on the portion of his income that is within the basic rate band, * 40% tax on the portion of his income that is within the higher rate band, and * 45% tax on the portion that is within the additional rate band. In a tax year in which the basic rate band applies to income up to £37,700, T’s tax liability is £61,460: * Basic Rate Band Tax =£37,700 x 20% = £7,540 * Higher Rate Band Tax = (£150,000 - £37,700) x 40% = £44,920 * Additional Rate Band Tax = (£170,000 - £150,000) x 45% £9.000
What is the personal savings allowance amount for each tax band which must be deducted from savings income before tax?
- Basic rate band: £1,0002. Higher rate band: £5003. Additional rate band: No savings allowance at all
Is the personal allowance considered an exemption or zero-rated?
Zero-rated
T’s trading income after her applying personal allowance is £30,000 in a tax year in which it all falls within her basic rate band of £37,700. She also received £2,200 interest from a building society account. She had no other income for the year. What is T’s tax liability?
Non-savings income: (tax suffered = 20% of £30,000 = £6,000).Savings income: Since all of T’s income (£30,000 + £2,200 = £32,200) is within the basic rate band, she is a basic rate taxpayer and is entitled to the £1,000 PSA. Thus, £1,000 of her interest will be taxed at 0% and £1,200 of her interest will be taxed at 20% (= £240). Her total liability is £6,240
T’s trading income after her applying personal allowance is £50,000 (the basic rate band threshold is £37,700). She also received £2,200 interest from a building society account. She had no other income for the year. What is T’s tax liability?
Non-savings income: (tax suffered = (20% of £37,700 = £7,540)+(40% of £12,300 = £4,920) = £12,460).Savings income: Since all of T’s income (£50,000 + £2,200 = £52,200) is within the higher rate band, she is a higher rate taxpayer and is entitled to the £500 PSA. £500 is taxed at 0% and £1,700 of her interest would be taxed at 40% (=£680). Her total liability is £13,140
T’s trading income after her applying personal allowance is £37,000 (the basic rate band threshold is £37,700). She also received £2,200 interest from a building society account. She had no other income for the year. What is T’s tax liability?
Non-savings income: (tax suffered = 20% of £37,000 = £7,400).Savings income: Since her total income (£37,000 + £2,200 = £39,200) is above the basic rate band for the year, she is a higher rate taxpayer and is entitled to only the £500 PSA. Since T’s trading income was £37,000 and the basic rate band was up to £37,700, £700 of the basic rate band remains. The first £500 of her £2,200 interest will be taxed at 0% and use up £500 more of the basic rate band, leaving £200 of her interest to be taxed at 20% (=£40). The remaining £1,500 of interest will be taxed at 40% (=£600). Her total liability is £8,040
What is the dividend allowance amount and what tax bands is it available to?
£2,000. Available to all taxpayers, irrespective of band.
Is the dividend allowance considered an exemption or zero-rated?
Zero-rated. Note, this means the Dividend Allowance will use the relevant portion of the bands at that point of the tax liability calculation.
What are the dividend tax rates for each tax band which must be deducted from dividend income before tax?
- Basic rate band: 7.5%2. Higher rate band: 32.5%3. Additional rate band: 38.1%
T is a sole trader. In a tax year in which the basic rate band applies to income of up to £37,700, her trading income is £36,700 (after applying her Personal Allowance) and she received £6,000 dividends from a company in which she owned shares. How would T’s dividends be taxed?
- The first £2,000 of dividends will be taxed at 0% (as T had £1,000 basic rate band remaining, it is used by the Dividend Allowance, and the first £1,000 of her higher rate band will be used by the allowance as well); and * The remaining £4,000 would be taxed at 32.5% (£1,300).
How does loss relief operate?
Claiming loss relief results in a sole trader or partners paying less tax by offsetting the loss against income that would otherwise be taxed.
Who can claim a trading loss? Can they be transferred to a spouse or civil partner?
Only the taxpayer. Losses cannot be transferred.
How does claiming loss relief work for a partner in a partnership?
Generally each partner’s share of a loss is proportionate to the partner’s share of the partnership’s profit (unless they agree otherwise). Therefore, a partner entitled to 20% of the partnership’s profit may claim 20% of the partnership’s loss.
What are the four ways with which a taxpayer may be able deal with a loss?
- Current year/prior year loss relief2. Carry forward of loss relief3. Carry forward relief on incorporation of a business4. Terminal loss relief
How is current year/prior year loss relief achieved?
Setting off all of the loss against total income in the current year or previous year. No partial claims are allowed.
What is Current Year/Prior Year Loss Relief?
Trade losses may be set off against the taxpayer’s total income before personal allowances from the current year or from the prior year. * All or nothing: A taxpayer must either utilise all the loss available for relief or relieve all their available income. No partial claims are permitted. * If a person claiming relief for a trade loss against total income is unable to make full use of that loss, they may use the balance as an allowable loss to reduce their capital gains and save capital gains tax.
In the context of Current Year/Prior Year Loss Relief, if a taxpayer’s losses exceeds their income, what happens to the Personal Allowance?
It is lost - it cannot be carried forward.
A makes a trading loss of £30,000 in 2021/22. In that tax year, A’s only other income is rental income from property of £18,000 and a £20,000 gain from the sale of commercial property. If A claims Current Year/Prior Year Loss Relief, how will this operate?
- A may elect to offset her trading loss against property income, which would leave her with £12,000 of loss (since she must use the loss to offset total income before applying her personal exemption).* She could then choose to offset the £12,000 against her total income from the prior 2020/21 tax year (in which case she would apply for a refund due to the retroactive application of the loss) or use the loss to offset £12,000 of her capital gain. * Note that A may not deduct her personal allowance first to increase the amount she could carry back. Neither could she choose to offset only £15,000 of her 2021/22 income, as she must utilise all the loss available for relief or relieve all her available income.
Although partial claims are not allowed in a current year/prior year loss relief situation, what option is available to a taxpayer who does not offset all of their trading loss against total income?
They can use the balance to offset any capital gains tax
In order to prevent artificially increasing the amount of loss that may be carried back or applied to CGT in a current year/prior year loss relief situation, what is the order in which losses and the personal allowance are applied to income?
The loss to be offset is applied to the fullest extent possible, before the personal allowance
How is carry forward of loss relief achieved?
Losses are carried forward and offset against the next available profits in the same trade* Losses cannot be offset against any other forms of income* Often a “last resort” as it delaus relief for losses.
How is carry forward relief on incorporation of a business achieved?
If a sole trader or partner transfers their business to a company and receives shares in return, they can offset any unused trading losses against salary or dividends they receive whilst they own the shares* Losses cannot be transferred to the company.
S incorporates her sole trade business and receives shares in return for the trade and assets. At the date of cessation of her trade, Sarah has unrelieved trading losses of £40,000. Can S claim relief for the losses?
They are S’ losses - they cannot be transferred to the company. However, if each tax year she receives £15,000 from the company in the form of salary and/or dividends, this income can be reduced by the carried forward losses, at least until the loss is fully utilised.
What does terminal loss relief allow?
When a trader ceases trading, it allows a loss to be deducted from trading profit in the tax year of cessation (if there are any) and then to be carried back to the three preceding tax years on a last in first out basis* This would result in a tax refund* The losses may be set off only against profits of the trade; they cannot be used to offset other income.
What is the double reasonableness test in the context of anti-avoidance?
HMRC can set aside a transaction if they can prove the arrangement cannot reasonably be regarded as a reasonable course of actionIt is a high threshold for HMRC to clear.
What is the difference between tax avoidance and tax evasion?
- Avoidance: appears to fall within technical rules but not within the spirit of the law* Evasion: illegal e.g. deliberately not declaring or hiding income
What is the GAAR?
General Anti-Abuse Rule * It seeks to deter taxpayers from entering into schemes that abuse the tax system and promoters of such schemes e.g. moving to another state to avoid tax and then moving back* In assessing whether a tax arrangement is abusive, the rule requires HMRC to obtain the opinion of an independent advisory panel regarding the reasonableness of any particular arrangement.* If a tax arrangement is found abusive, HMRC may make a tax adjustment which is just and reasonable under the circumstances, such as taxing the income in a legitimate way. * GAAR does not provide for any other penalties per se, but a taxpayer who participates in an abusive scheme can be penalised under the general tax laws for filing an inaccurate return.
What is the current inheritance tax nil-rate band (NRB), and what is the inheritance tax rate (IHT)?
£325,000. 40%.
When are lifetime transfers to trusts and companies chargeable to IHT?
Chargeable when made (note, they may also suffer additional tax if the transferor dies within 7 years of the transfer and it exceeds the NRB)
When are lifetime transfers to individuals chargeable to IHT?
When the donor dies within seven years, and the transfer exceeds the NRB
What is a ‘chargeable transfer’
Transfers on which IHT is charged.* IHT is charged on “the value transferred by a chargeable transfer” (i.e. the value of the gift). * They include gifts made on death and certain lifetime gifts. * IHT can be imposed on the transfer of any asset-money, stock, cars, resi- dences etc.
The transfers of what assets are chargeable to IHT depending on whether the donor is domiciled (1) in the UK and (2) outside the UK?
Domiciled in UK: All worldwide assets, wherever situatedNot domiciled in UK: UK assets only
What is the term given to a non-domiciled donor’s assets located outside the UK?
Excluded property
UK domiciliary owns a diamond ring kept in a jewellery shop in California. It has never left California. Is the ring subject to IHT?
Yes as the taxpayer is a UK domiciliary.
What are the two primary considerations when determining whether a transfer is a chargeable transfer?
- Whether there has been a reduction in value in the estate as a result of the transfer2. Whether donor intended to make a transfer of value (i.e. if there is no gratuitous intent, it is not chargeable)
Selling something below market value would cause a reduction in value of the estate. When is this not deemed a transfer for IHT purposes?
When the transfer is to an unconnected person and there is no gratuitous intent behind the lower price
A owns a car with a market value of £20,000. He agrees to sell the car to S, an unrelated person he has never met before, for £15,000. Is this a chargeable transfer?
No, as this is an ‘arm’s length transaction’, it is unlikely A intended to make a gift of £5,000 to S. Therefore, it is not a chargeable transfer for IHT purposes.
A owns a car with a market value of £20,000. He agrees to sell the car to S, his daughter, for £15,000. Is this a chargeable transfer?
Yes. Because this is not an ‘arm’s length transaction’, A would likely be treated as having intended to make a gift of £5,000 to S. The £5,000 would likely be treated as a PET.
Is expenditure on the maintenance of one’s family considered to be a chargeable transfer?
No, even though the donor’s estate will be reduced because of the transfer. Examples: if a parent pays school fees on behalf of their children, or if an individual makes provision to look after a dependent relative or former spouse, such dispositions will be ignored for IHT.
What is the ‘Loss to Donor” Principle?
For the purposes of IHT, the loss to the donor’s estate is calculated rather than the gain to the recipient of the gift. * Typically, market value at the time of the transfer (“probate value”) is used * It is difficult to value certain property e.g. stock in a small company because a number of factors may be relevant
A owns 6,000 shares (a 60% holding) in Earnest Ltd. A decides to give 2,000 of his shares to his daughter, B. At the date of the gift, a 60% holding of shares is worth £48,000 (£8/share), a 40% holding is worth £20,000 (£5/ share), and a 20% holding is worth £8,000 (£4/share). What is the chargeable transfer?
The chargeable transfer here is £28,000 (the loss to A, as he had shares worth £48,000 and he now has shares worth only £20,000). We ignore the £8,000 gained by B.
How is transferred property valued if it is worth more when combined with property already owned by the recipient, e.g. 10% of shares transferred to someone who already owns 41% makes their entire holding more valuable on single-share basis?
The transferred property is valued at the higher amount if there is other property that is “related’ to it (i.e. similar property owned by a spouse/civil partner).
What is a potentially exempt transfer?
A lifetime gift from one individual to another which is neither exempt nor chargeable, but becomes chargeable if the donor dies within seven years (payable by the recipient)
Which 6 types of lifetime transfer are exempt from IHT?
- Gift to spouse/civil partner (unlimited if domiciled in UK, up to £325,000 if domiciled outside UK* Gift to UK/EEA charity (unlimited* Small gift (up to £250 ‘all or nothing’)* Gift on Marriage (limit depends on giver)* Normal expenditure out of income (subject to 3 requirements)* Annual Exemption of £3000
What is the spouse/civil partner exemption to IHT on both lifetime transfers and transfer on death?
Completely exempt from IHT if spouse/civil partner is domiciled in UK
What is the exception to the spouse/civil partner exemption?
If the donor spouse in UK-domiciled and the recipient spouse is non-UK domiciled, only the first £325,000 is exempt. This is a cumulative restriction covering both lifetime and death transfers i.e. it is not per gift.
Lifetime gifts or gifts on death to charities/charitable trusts in what locations are exempt from IHT and what is the monetary limit?
UK and EEA. No limit.
What is the value threshold for the small gift exemption to IHT on lifetime transfers and is there a limit on how many of these can be made in a year?
up to £250 (‘all or nothing’). No limit on number of transfers.
What does it mean that the small gift exemption is an all or nothing exemption?
If the gift exceeds £250 at all, the entire gift is chargeable, not just the portion which exceeds the threshold
What are the limits on exempt lifetime gifts on marriage to bride and/or groom for (1) a parent, (2) a grandparent, (3) bride to groom (vice versa) before wedding, and (4) all others?
- £5,0002. £2,5003. £2,5004. £1,000These exemptions apply per marriage/civil partnership.
Is the wedding exemption all or nothing?
No
If the bride’s father gives a £5,000 gift to his daughter, and then a £1,000 gift to his son-in-law, are both exempt?
No. The limit applies per donor, per wedding
What is the normal expenditure out of income exemption to IHT on a lifetime transfer?
A gift is exempt from IHT if:* it is regular/habitual e.g. year after year* it is made from surplus income * the donor is left with sufficient income to maintain their normal standard of living, i.e. the donor was not trying to lower the value of their estate for IHT purposesThere is no monetary limit as “normal” income depends on the individual Examples: life assurance premiums or personal pension premiums paid by an individual in respect of another person, or to regular gifts of cash as Christmas or birthday presents.
What is the annual exemption for lifetime transfers and can unused amounts be carried forward?
£3,000. Yes, unused amounts can be carried forward one year and a current year’s exemption is used before the previous one.It is set against gifts in chronological order in the tax year.
D makes a lifetime gift for the first time in 2021/22. The gift is to his friend E in the amount of £7,000. How much of this gift is taxable?
D will first use his £3,000 annual exemption for 2021/22 and then may use the £3,000 annual exemption brought forward from 2020/21. D cannot apply any unused annual exemptions from before 2020/21, and so £1,000 of the gift may be subject to IHT.
A father gives his daughter £10,000 in May 2021 as a wedding present. The father had not given any gifts during the previous tax year. How much of the gift is taxable?
The gift will not be taxable, as the marriage exemption applies to the first £5,000, the £3,000 annual exemption for the current tax year (2021/22) applies to the next £3,000, and (because the father had not given any gifts the year before), the remaining £2,000 can be negated by pulling forward the annual exemption from 2020/21.
If a donor dies within seven years of a PET, who is the tax payable by?
The recipient
What is a chargeable lifetime transfer?
A lifetime gift which is not exempt or potentially exempt
What are two exceptions to the general rule that a lifetime transfer to a trust is immediately chargeable, and what are the reasons for both?
- Charitable trusts, because they are exempt2. Bare trusts (trusts where the beneficiaries decide when the assets are distributed), because they are PETs
What two monetary amounts must be deducted before calculating the tax on a CLT?
- Remaining NRB2. Available exemptions, max of £6,000 if carrying over a full unused yearNote, any annual exemption will be used up by PETs first (even though no tax was actually paid on them yet)
Who pays the tax on a CLT?
Either the donor (at 25%) or the trustees (at 20%).The donor rate is higher because we have to ‘gross up’ the transfer if the donor pays the tax, as the amount leaving their estate is the transfer to the trust plus the IHT paid to HMRC
T set up a discretionary trust in December 2020 with cash of £500,000. His only previous gift had been £1,000 to his son in June 2019. How much of the gift to the trust is taxable and what is payable if (1) trustees pay or (2) donor pays?
The PET of £1,000 will use some of the annual exemption for the tax year 2019/20. Therefore, T has made a taxable lifetime transfer to the trust of £495,000 (£500,000 less the £3,000 2020/21 annual exemption and less another £2,000 for the part of the annual exemption remaining from the previous year). The first £325,000 of this gift (the nil rate band) is taxed at 0%. Therefore, tax will be owed only on the remaining £170,000.If the trustees pay the tax, it will be £34,000 (£170,000 x 20%); if T pays the tax, it will be £42,500 (£170,000 x 25%). Additionally, if T pays the tax, the gift will be treated as having included the tax paid (because that also diminished Timothy’s estate)-making the total gift £537,500 (£495,000 + £42,500).
What are the two tax rates applicable to CLTs if paid by (1) the trustees, and (2) the donor?
- Trustees: 20%2. Donor: 25%
What two questions should be asked in relation to a PET?
- Did donor die within 7 years of making the gift? If no, there is no IHT2. Were there any other gifts made within 7 years before your gift? If yes, you would assess how much as against the NRB at the time of death and that’s the remaining NRB you have remaining for your gift.
What is the cumulation period within which we need to assess previous gifts made for the purposes of determining the amount of the NRB remaining, and which if the cumulative amount exceeds the NRB, tax is payable?
Seven years
When looking back at the cumulation period, what does it mean that the gross amount of the transfers is used?
In cumulating the transfers, use the amount transferred plus the any tax paid by the donor
Do CLTs and PETs both use up the NRB for the purposes of cumulation?
No. Just CLTsThe only reason we consider PETs whilst the donor is alive is because they can use up any available annual exemptions.
To summarise, what are the five steps for calculating lifetime tax?
- Identify the value transferred using the loss to donor principle2. Deduct annual exemptions to arrive at the CLT3. Identify the NRB for the year of transfer4. Deduct other chargeable transfers made with seven years5. Pay tax on the excess at 20/25%
In January 2020, D made a gift to a trust of £200,000. The only other gift D has ever made was a gross chargeable lifetime transfer (after exemptions) of £155,000 in May 2014. If the trustees pay the tax, what will the tax liability be?
Because May 2014 is within seven years of January 2020, the £155,000 2014 gift uses up the first £155,000 of the nil rate band, leaving £170,000 remaining. The current chargeable transfer is £194,000 (the £200,000 transfer amount less the £3,000 annual exemption for the year the gift was made and the £3,000 unused annual exemption from the previous year). IHT must be paid on the difference between this amount and the amount of the nil rate band remaining (£194,000 - £170,000 = £24,000). If the trustees are paying the IHT at 20%, the tax payable is £4,800.
When does a PET become a CLT?
When the donor dies within 7 years of making the gift.Note, the value of the PET is the value at the date it was made - if the value has since increased, we ignore this.
In determining tax owed on a potentially exempt transfer after death, what NRB and tax rates are operative?
The ones at the date of death
In determining tax owed on a potentially exempt transfer, from what period do we look back seven years?
PET: Seven years from the date of the PET, not deathThis means a CLT made almost 14 years before death could still be relevant in extreme circumstances
In November 2014, A made a chargeable transfer (after annual exemptions) of £152,000. In January 2021, A gave £216,000 to his son. Vernon died in February 2022. At the time of Vernon’s death, the nil rate band was £325,000. What is the IHT owed on the PET?
After deducting two annual exemptions, this PET was £210,000. The PET in January 2021 now fails and becomes a chargeable transfer. The 2014 gift was made within seven years of the 2021 gift, so we have to take it into account. It used up the first £152,000 of the NRB, leaving £173,000 of NRB remaining. So, the first £173,000 of the chargeable PET is taxed at 0%. That leaves the remaining £37,000 (£210,000 - £173,000) subject to 40% inheritance tax (£14,800).
After what period between the PET and death does taper relief kick in?
3 years
What is the process for tapering tax payable on a PET?
First calculate the full tax owed, and then reduce that monetary amount by the relevant % (this is because taper relief reduces the tax payable, it does not reduce the amount of the transfer)
What are the four taper percentages available to PETs which the donor dies (a) 3-4 years, (b) 4-5 years, (c) 5-6 years, and (d) 6-7 years after the PET?
3-4 years: 20% (i.e. pay 80% of the tax)4-5 years: 40% (i.e. pay 60% of the tax)5-6 years: 60% (i.e. pay 40% of the tax)6-7 years: 80% (i.e. pay 20% of the tax)
In July 2013, Marion made a £496,000 gift to her son (after exemptions). Marion died in March 2020. She had not made any other gifts. How much tax is payable?
Because Marion died within seven years of the gift, the PET fails and is subject to tax. If Marion had not used any of her nil rate band before death, the first £325,000 of the gift is taxed at 0%, leaving the remaining £171,000 gift to be taxed at 40% (£68,400). However, as Marion died between six and seven years after making the PET, 80% taper relief is available; that is, only 20% of the £68,400 tax (£13,680) is payable by her son as recipient of the gift.
What are the 5 steps for working out additional tax payable at death on a CLT?
- Start with CLT2. Calculate NRB remaining 3. Calculate tax at 40% 4. Apply taper relief if applicable5. Apply credit for IHT already paid when transfer was madeNote, if the lifetime IHT exceeds the IHT payable on death, no refund is given.
What taper relief is available to tax payable at death on a CLT?
The same as with PETs. Kicks in after three years.
What is the one difference in calculating death tax on a CLT compared to a PET?
With a CLT, there will be a credit for lifetime IHT already paid.
If the lifetime taxes were overpaid, will a repayment be issued upon death to reflect this?
No
A made a chargeable lifetime gift of £645,000 (after annual exemptions) in December 2016. At that time, the nil rate band was £325,000, leaving £320,000 subject to 20% lifetime tax (£64,000). Orla died in September 2021, having made no other gifts. Is there additional tax owed on the CLT?
Because the CLT was made within seven years of death, we must calculate whether additional death tax is owed by the trustees. We take the amount of the CLT (£645,000) and subtract out the nil rate band at the time of A’s death (still £325,000), which leaves £320,000 subject to the 40% death tax, which comes to £128,000. However, the CLT was made between four and five years before Orla’s death and so is entitled to 40% taper relief, meaning that only 60% of the £128,000 (£76,800) must be paid. The trustees already paid £64,000 in lifetime inheritance tax, which will be credited against the £76,800. Therefore, they now owe £12,800.
Which 2 tax reliefs are available for lifetime transfers/transfers on death?
- Business relief* Agriculture relief
What is business relief for IHT?
The value of business property given as a lifetime gift to a trust or at death is reduced by either 50% or 100%, before any annual exemptions, and occurs automatically if the conditions are satisfied
What are the conditions required for business relief to be granted automatically?
- Relevant business property (different for 50% and 100% relief)* Business must be trading* Donor owned property for at least 2 years before the transfer (subject to exceptions)If these requirements are satisfied, the relief is automatic and there is no requirement to make a formal claim
What are the two % amounts for business relief?
100% relief and 50% relief
What two assets qualify for 100% business relief?
- Sole-trade business or partnership interest2. Any number of shares in unlisted trading company
What two assets qualify for 50% business relief?
- Shares in a listed company if the donor owns 50% or more2. Land, buildings, and plant/machinery owned by an individual but used by a company they control or partnership in which they are a partnerNote: related property is considered in deteriming control
A owns a successful shop in which she sells items for use in magic tricks. She incorporated the business five years ago. She transfers half her shares in the company to a trust benefiting her three brothers. The transfer of value (the loss to donor) is £600,000. Is IHT payable?
No IHT will be owed on the transfer because it qualifies for business (property) relief.
What does the ‘business must be trading’ requirement for business relief mean?
The business is carried on by the sole trader, partnership, or company is trading (except if the trade is to make or hold investments or to deal in property e.g. acquiring land to obtain rental income/sell it on at a profit)* If shares are gifted in a trading company that holds some assets as investments (known as ‘excepted assets’), then business relief is available but is restricted to the company’s trading asset proportion.
What type of business is not eligible for business relief?
One whose trade it is to make or hold investments
What is the situation where shares are gifted in a business that holds some assets as investment?
The relief is restricted to the trading and not investment proportion
Are shares in overseas businesses eligible for business relief?
Yes
What is the general rule as to how long a donor must have owed property before the transfer before it qualifies for business relief?
Two years (subject to 2 exceptions)
What are two exceptions to the two year ownership requirement to qualify for business relief?
- Replace one business property asset with another within three years2. Inheriting business property assets from spouse
What is agricultural relief?
Similar (and available in addition) to business relief.If conditions are met, it automatically reduces, before any available annual exemptions, the value of farmland and farm buildings transferred either during lifetime or on death and is normally available at 100%.Note: the relief only applies to the agricultural value of the land - ignore any value ascribed to land if it were to be developed.
What are the conditions required for agricultural relief to apply?
- Agricultural property (land or buildings)* Belonging to a farmer/landowner with a tenant* Purpose not excluded (e.g. grazing horses, fishing, shooting and other sporting rights are excluded)* Sufficient ownership (farmer 2 years, landowner 7 years)If the conditions are satisfied, the relief applies automatically and there is no requirement to make a formal application
What is agricultural property and what are the geographical limits of this relief?
Land or buildings used for the purposes of agricultural, within UK, Channel Islands, Isle of Man, or EEA
What are the two types of people to whom agricultural relief will apply?
- Farmer who owns the land and buildings and uses these in their own business2. Landowner who is letting out agricultural land to a farmer
To qualify for agricultural relief, must the landowner farm the land themselves?
No
What types of activities taking place on land will preclude agricultural relief?
- Grazing horses (except for a stud farm)2. Fishing, shooting, or other sporting rights
For how long before the transfer must the land have been owned in the case of (1) occupation by the transferor and (2) where the transferor was letting out the land?
Occupation by transferor: Two yearsTenanted land: Seven years
When will business relief and agricultural relief be available at the same time, and what is the priority of these reliefs?
When a farmer runs a farming business.Agricultural relief applies first to the agricultural value of the property, and business relief may be applied to the excess value in respect of assets used in the farming business which are not agricultural land or buildings e.g. plant, machinery, goodwill.
When will business relief not be available in addition to agricultural relief?
When the farmland is let out by the landowner
Regarding what one type of gift will business and agricultural relief have immediate effect, and why?
Only CLTs into trusts, because PETs are not immediately chargeable (for PETs the reliefs are taken into account in calculating IHT due)
How does business/agricultural relief apply where a PET/CLT is made within 7 years of the donors death?
The death tax due on transfer will be calculated with the benefit of reliefs, provided that the recipient of the gift has either:* retained the property until death of the donor or* sold it and replaced it within 3 years with other business/agricultural property as appropriate. All proceeds must be reinvested - there is no partial relief.
At the point of death, what is the deceased deemed to have made a chargeable transfer of?
The net value of their assets to which they are beneficially entitled at the date of death
What is the net value of assets?
Total value of the assets owned by the deceased, less funeral expenses and any debt or liabilities owed by the deceased
