Unit 3 Inheritance Tax

Question 1

When is inheritance tax charged?

Answer 1

(a) Death

(b) Lifetime gifts made to individuals within seven years prior to death

(c) Lifetime gifts to a company or into a trust.
Immediately chargeable to IHT at the time when it is made, unless the trust is for a disabled person.

Question 2

IHT calculation

Answer 2

Step 1: Identify the transfer of value
Step 2: Find the value transferred
Step 3: Apply any relevant exemptions and reliefs
Step 4: Calculate tax at the appropriate rate

Question 3

Transfers on death - step 1 transfer of value - estate definition

Answer 3

= all the property to which the deceased was beneficially entitled immediately before their death, with the exception of ‘excluded property’.

• Trust property
  If qualifying interest in possession = if entitled to capital/income from it or enjoy trust property in come equivalent way e.g. live in it.
• Property subject to a reservation
  Where the deceased gave away property during their lifetime but did not transfer ‘possession and enjoyment’ or was not entirely excluded from enjoying the property.

Question 4

Transfers on death - step 1 transfer of value - estate definition - exemptions

Answer 4

Property in which the deceased did not have such an interest falls outside the definition.
E.g. life assurance policy once it is written in trust for a named beneficiary and a discretionary lump sum payment made from a pension fund to the deceased’s family.

Excluded property - reversionary interest = future interest e.g. an interest in remainder under a trust, created before 22 March 2006.

Question 5

Transfers on death - step 2 value transferred

Answer 5

Attribute a value to each asset.

Basic valuation principle = price which the property might reasonably be expected to fetch if sold in the open market immediately before the death.
Selling a share of jointed owned land - can be discounted - 10% for commercial property and 15% for residential property.

Where the death causes the value of an asset in the estate to increase or decrease, that change in value should be taken into account.

Question 6

Transfers on death - step 2 value transferred - quoted shares, debts and expenses

Answer 6

• Valuing quoted shares

Value taken from Stock Exchange Daily Official List for the date of death (or the nearest trading day).
The list quotes two prices.
Take one- quarter of the difference between the lower and higher price and add it to the lower price.

• Debts and expenses

Liabilities owed by the deceased at the time of death are deductible for IHT purposes provided that they were incurred for money or money’s worth. E.g. utility bills.

Deceased may not have paid enough income tax on the income they received before they died; this amount may also be deducted.

Reasonable funeral expenses are also deductible.

Question 7

Transfers on death - step 3 exemptions

Answer 7

• Spouse or civil partner exemption

If property passes to the deceased’s spouse or civil partner under the deceased’s will or intestacy or, in the case of joint property, by survivorship.
(If the transferor is domiciled in the UK but the transferee is not, the level of the exemption is limited to £325,000. Alternatively, the transferee can elect to be treated as UK- domiciled for IHT purposes and so receive the full exemption.)

Applies on creation of the trust (whether by will or on intestacy) and on the death of a life tenant.

• Charity exemption

Any property which passes on death to charity is exempt.

A similar exemption applies to gifts to certain national bodies and bodies providing a public benefit, such as museums and art galleries, and to political parties.

Question 8

Transfers on death - step 3 reliefs - Business property relief

Answer 8

Only applies where the business is ‘trading’ in nature (as opposed to one dealing in investments or land).

100% reduction:
(a) a business or an interest in a business (including a partnership share);
(b) company shares that are not listed on a recognised stock exchange.

50% reduction:
(a) company shares that are listed on a recognised stock exchange if the transferor had voting control of the company immediately before the transfer;
(b) land, buildings, machinery or plant owned by the transferor personally but used for business purposes by a partnership of which the transferor is a member, or by a company (whether quoted or unquoted) of which the transferor has voting control.

Voting control = ability to exercise over 50% of the votes on all resolutions.

Assets must have been owned by the transferor for at least two years at the time of the transfer or, broadly, must be a replacement for relevant business property where the combined period of ownership is two years.

If property is inherited from a spouse or civil partner, the surviving spouse/ civil partner is deemed to have owned the property from the date it was originally acquired by the deceased spouse/ civil partner (does not apply to lifetime transfers between spouses/ civil partners).

Question 9

Transfers on death - step 3 reliefs - Agricultural property relief

Answer 9

Reduces the agricultural value of agricultural property.

Agricultural value = value of the property if it were subject to a perpetual covenant prohibiting its use other than for agriculture - less than its market value if the land has development potential.

Value which is over and above its ‘agricultural value’ will not qualify for any agricultural property relief but may qualify for business property relief.

Conditions:
- property occupied by the transferor for the purposes of agriculture for the 2 years prior to the transfer
or
- it was owned by the transferor for the 7 years prior to the transfer and was occupied by someone throughout that period for the purposes of agriculture.

100% reduction:
-the transferor had the right to vacant possession immediately before the transfer
or
-where the property was subject to a letting commencing on or after 1 September 1995.

50% reduction:
- other cases.

Question 10

Transfers on death - step 4 tax rate - Nil rate band (NRB)

Answer 10

If the deceased has made no chargeable transfers in the seven years before death, the rate of tax on the first £325,000 of the estate is 0%.

Normal rate 40%.

Special rate of 36% where at least 10% of a defined ‘component’ of a person’s net estate (after deduction of other exemptions, reliefs and the available NRB) passes to charity.

If the deceased died on or after 9 October 2007 having survived a spouse or civil partner, the NRB in force at the date of death of the survivor is increased by whatever percentage of the NRB of the first to die was unused by them (subject to a maximum increase of 100%).

Question 11

Transfers on death - step 4 tax rate - Residence nil rate band (RNRB)

Answer 11

Available for deaths occurring after 6 April 2017.

2023/24 = £175,000.

Deceased must die owning a ‘qualifying residential interest’ which is ‘closely inherited’:
(a) A qualifying residential interest is an interest in a dwelling house which has at any time been the deceased’s residence and which forms part of the deceased’s estate.
(b) For a property to be ‘closely inherited’, it must pass to:
(i) a child,
(ii) the current spouse or civil partner of the deceased’s lineal descendants; or
(iii) the widow, widower or surviving civil partner of a lineal descendant who predeceased the deceased, unless such persons have remarried or formed a new civil partnership before the deceased’s death.

Do this tax first then NRB then rest.

If estate worth 2 mil+ adjust RNRB:
£175,000 – (value of estate – £2 million) / 2

Any unused RNRB may be claimed by a surviving spouse, even if the first spouse died before 6 April 2017.

Can still use it if downsized prior to death to less valuable property or moved into care home.

Question 12

Lifetime transfers: Potentially exempt transfers (PET) - Step 1: Identify the transfer of value

Answer 12

Includes gifts made to disabled trust.

Excluded:
Transfer for the maintenance, education or training of the transferor’s child under 18, or over that age if still undergoing full-time education or training, or for the maintenance of a dependent relative.

Question 13

Lifetime transfers: Potentially exempt transfers (PET) - Step 2: Find the value transferred

Answer 13

= loss in value to the estate of the transferor brought about by the transfer.

Question 14

Lifetime transfers: Potentially exempt transfers (PET) - Step 3: exemptions and reliefs

Answer 14

• Spouse or civil partner and charity exemptions
  Exempt, even if the transferor dies within 7 years.
• Business and agricultural property relief
  Where there has been a lifetime transfer, followed by the death of the transferor within 7 years, the BPR given at the time of the lifetime transfer will be withdrawn unless the transferee still owns the business property at the date of the transferor’s death (or, if earlier, the transferee’s own death).

Question 15

Lifetime transfers: Potentially exempt transfers (PET) - Step 3: exemptions and reliefs - lifetime only exemptions

Answer 15

Do other reliefs first then these.

• Annual exemption
  3k a year, can carry forward 1 year so 6k.
• Small gifts
  £250 or less to any one person are exempt.
• Normal expenditure out of income
  Exempt if it can be shown that:
  (a) it was made as part of the transferor’s normal expenditure; and
  (b) it was made out of the transferor’s income; and
  (c) after allowing for all such payments, the transferor was left with sufficient income to maintain their usual standard of living.
• Gifts in consideration of marriage
  Exempt up to:
  (a) £5,000 by a parent of a party to the marriage;
  (b) £2,500 by a remoter ancestor of a party to the marriage (eg a grandparent); and
  (c) £1,000 in any other case.

All exempt if transferor does not die within 7 years!

Question 16

Lifetime transfers: Lifetime chargeable transfers (LCTs)

Answer 16

Any lifetime transfer which is not a PET is immediately chargeable.
E.g. lifetime transfer made on or after 22 March 2006 into any trust (other than a disabled trust) or to a discretionary trust or company.

Step 1: Identify the transfer of value
Step 2: Find the value transferred
Step 3: Apply any relevant exemptions and reliefs
(small gifts exemption does not apply)
Step 4: rate of tax
(a) 0% on the first £325,000 (the nil rate band); and
(b) 20% on the balance of the chargeable transfer (half the rate for transfers which are chargeable on death).

Question 17

Effect of death on lifetime transfers

Answer 17

Death within 7 years:
- PETs made in that period become chargeable and the transferee will be liable for any IHT payable.
- IHT liability on LCTs made in that period is recalculated and the trustees will be liable for any extra tax payable.

Question 18

Effect of death on lifetime transfers - PETS

Answer 18

• Step 4: Calculate tax at the appropriate rate

Establish the transferor’s cumulative total of transfers at the time of the PET, as this will reduce the available NRB.

The cumulative total will be made up of:
(a) any LCTs made in the seven years before the PET being assessed; and
(b) any other PETs made during the seven years before the PET being assessed which have become chargeable as a result of the transferor’s death.

• Tapering relief

Available if the transferor survives for more than three years after the transfer.

Tax is reduced to the following percentages:
(a) transfers within three to four years before death: 80% of death charge
(b) transfers within four to five years before death: 60% of death charge
(c) transfers within five to six years before death: 40% of death charge
(d) transfers within six to seven years before death: 20% of death charge

Question 19

Effect of death on lifetime transfers - LCTs

Answer 19

Tax bill may be increased
because the full death rate of IHT will now apply.
Also because PETs made before the LCT may have become chargeable. They will increase the cumulative total and so reduce the NRB applicable to the LCT.

Step 4: calculate tax at the appropriate rate
Tax rates in force at death unless less than rate in force at transfer.
Lower 36% charity rate is not applicable.

Cumulative total:
(a) any other LCTs made in the seven years before the LCT being assessed; and
(b) any PETs made during the seven years before the LCT being assessed which have become chargeable as a result of the transferor’s death.

Tapering relief and credit for IHT already paid:
Applies if more than three years have elapsed between the transfer and the subsequent death.

Credit is then given for any IHT paid on the LCT at the time it was made.

If recalculated bill is lower no tax refunded.

Question 20

Liability and burden

Answer 20

Receiver of property shares liability with representatives but normally paid before they receive it.
Statutory rules on liability cannot be varied.

Testator can change the statutory rules on the burden by making express provision in the will = transferor decides.

Question 21

Liability and burden - the estate rate

Answer 21

= the average rate of tax application on each item of property.

Necessary to work out as some tax can be paid in instalments (land).
And sometimes PRs not liable to pay all tax e.g. trust property as trustees liable.
Will may give a legacy ‘subject to tax’ so that the recipient has the burden of tax relating to that legacy.

Question 22

Liability for IHT on death

Answer 22

PRs liable for IHT for:
(a) the property which vests in the PRs and
(b) property (other than trust property) which does not pass to the PRs but is included in the estate for IHT because the deceased was beneficially entitled to it immediately before death (eg joint property which passes by survivorship).

Any property which was ‘comprised in a settlement’ immediately before the death - the trustees and subsequent vested beneficiaries liable for IHT attributable to that property.

Where gave away property but reserved benefit -
transferee of the gift is primarily liable to pay tax attributable to the property. However, if the tax remains unpaid 12 months after the end of the month of death, the PRs become liable for the tax.

Question 23

Liability for IHT on PETs

Answer 23

Transferee is primarily liable but, the PRs become liable if the tax remains unpaid 12 months after the end of the month of death.

Liability of the PRs is limited to the extent of the assets they actually received, or would have received but for their neglect or default.

PRs cannot escape liability on the grounds that they have distributed the estate and so they should ideally delay distribution until IHT on any such lifetime gifts has been paid.

Question 24

Liability for IHT on LCTs

Answer 24

The transferor is primarily liable for IHT, although HMRC may also claim the tax from the trustees.

If the transferor pays, the amount of tax will be more than it would be if the trustees paid - IHT is charged on the value transferred, loss is increased by the amount of tax he pays.

Question 25

Time for payment

Answer 25

• Death estates

IHT is due for payment six months after the end of the month of death.
If not paid on time, interest runs on the outstanding amount.

The instalment option (10 equal yearly instalments) applies to:
(a) land;
(b) a business or an interest in a business;
(c) shares (quoted or unquoted) which immediately before death gave control of the company to the deceased;
(d) unquoted shares which do not give control if either:
(i) the holding is sufficiently large (a holding of at least 10% of the nominal value of the company’s shares and worth more than £20,000); or
(ii) HMRC is satisfied that the tax cannot be paid in one sum without undue hardship; or
(iii) the IHT attributable to the shares and any other instalment option property in the estate amounts to at least 20% of the IHT payable on the estate.

Instalments carry interest.

If the instalment option property is sold, all outstanding tax and interest becomes payable.

• PETs
  6 months after the end of the month of death.
  Same instalment options.
• LCTs
  Any IHT on LCTs made after 5 April and before 1 October in any year is due on the 30 April in the following year.
  If not then 6 months after the end of the month in which LCT is made.

Any additional IHT on the reassessment of an LCT following the transferor’s death is due six months after the end of the month of death.
Instalment option may be available.

Question 26

Anti- avoidance

Answer 26

Legitimate tax planning remains permissible.

• Disclosure of tax avoidance schemes (DOTAS)

To constitute a ‘notifiable arrangement’ and therefore fall within the regulations, the main purpose, or one of the main purposes, of the arrangements must be to enable a person to obtain one or more of a list of specific advantages in relation to IHT (a tax advantage), eg a reduction in the value of a person’s estate, and the arrangements must involve one or more contrived or abnormal steps without which a tax advantage could not be obtained.

• General anti- avoidance rule (GAAR)
• An arrangement is a ‘tax arrangement’ for the purpose of GAAR if, having regard to all the circumstances, it would be reasonable to conclude that the obtaining of a tax advantage was the main purpose (or one of the main purposes) of the arrangement.
• A tax arrangement is ‘abusive’ if the entering into or carrying out of the arrangement cannot reasonably be regarded as a reasonable course of action (the double reasonableness test).
• Burden of proof on HMRC.
• HMRC may counteract the advantage and, if appropriate, impose a penalty.