W6 Flashcards
What are PETs and LCTs in the context of taxation?
PETs refer to lifetime transfers of value to another individual, while LCTs are lifetime transfers of value made by a person into a trust. PETs are not chargeable unless the transferor dies within 7 years, in which case they are reassessed at the death rate of 40%. LCTs, on the other hand, are immediately chargeable to inheritance tax (IHT) at a rate of 20%.
How is the tax due on LCTs and failed PETs calculated?
The tax due on LCTs and failed PETs is calculated by following a process that involves calculating the cumulative total, identifying the value transferred, applying exemptions and reliefs, applying the basic nil rate band (NRB), and calculating the tax at the appropriate rate. If the transferor dies within 7 years, the LCT or failed PET must be reassessed using the same steps but with a tax rate of 40%.
What is the purpose of PETs and how are they treated for tax purposes?
PETs, or Potentially Exempt Transfers, are lifetime transfers of value to another individual. They are not chargeable at the time they are made, but if the transferor dies within 7 years, the PET becomes chargeable alongside their death estate. If the transferor survives for 7 years from the date of the PET, it becomes fully exempt from inheritance tax (IHT).
What is the tax treatment of LCTs and how are they assessed?
LCTs, or Lifetime Chargeable Transfers, are lifetime transfers of value made by a person into a trust. They are chargeable at the time they are made, with IHT payable on the chargeable value of the LCT at the lifetime rate of 20%. If the transferor survives 7 years following the LCT, there is no further charge to tax. If the transferor dies within 7 years, the LCT will be reassessed to tax at the death rate, using the NRB at the date of death.
What is the process for calculating IHT on lifetime transfers?
The process for calculating IHT on lifetime transfers involves several steps. First, calculate the cumulative total by adding up the value of all chargeable transfers made in the 7 years prior to the transfer. Then, identify the value transferred and apply any available exemptions and reliefs. Next, apply taper relief if necessary and give credit for any tax paid during the transferor’s lifetime. Finally, calculate the tax due by applying the basic nil rate band (NRB) and the appropriate tax rate.
What is the purpose of taper relief in the calculation of IHT on lifetime transfers?
Taper relief is applied to lifetime transfers made 3-7 years before the transferor’s death. It reduces the amount of inheritance tax (IHT) payable on these transfers. The rates of taper relief vary depending on the number of years between the transfer and the death. Taper relief is not applicable to immediately chargeable lifetime transfers (LCTs), as they are taxed at the lifetime rate of 20%.
What is the significance of applying credit for tax paid in the transferor’s lifetime when calculating IHT on reassessed transfers?
When an LCT or failed PET is reassessed at the death rate, it is necessary to factor in any tax that was paid at the lifetime rate. This is done by deducting the IHT paid previously from the tax due because of the death. Only the balance needs to be paid to HMRC, and no refund is given if the tax due on death is less than that already paid at the lifetime rate.
What is the cumulative total and how is it calculated in the context of IHT on lifetime transfers?
The cumulative total is the value of all chargeable transfers made in the 7 years prior to the transfer. It is relevant to lifetime transfers as it determines how much of the nil rate band (NRB) is available for the transfer. The cumulative total is calculated by adding up the value of all chargeable transfers made in the 7-year period prior to the transfer.
What is the value transferred and how is it identified in the calculation of IHT on lifetime transfers?
The value transferred refers to the immediate decrease in the value of the individual’s estate as a result of a disposition, such as a gift or transaction at an undervalue. For lifetime transfers, the value of the transfer is assessed by reference to the loss in value to the donor at the date of the transfer.
What exemptions and reliefs are applied when calculating IHT on lifetime transfers?
When calculating IHT on lifetime transfers, various exemptions and reliefs may be applied. These include the spouse exemption, charity exemption, family maintenance exemption, annual exemption, small gifts allowance, normal expenditure from income, marriage exemption, business property relief, and agricultural property relief.
What is the purpose of applying taper relief and when is it applicable in the calculation of IHT on lifetime transfers?
Taper relief is applied to lifetime transfers made 3-7 years before the transferor’s death. It reduces the amount of inheritance tax (IHT) payable on these transfers. The rates of taper relief vary depending on the number of years between the transfer and the death. Taper relief is not applicable to immediately chargeable lifetime transfers (LCTs), as they are taxed at the lifetime rate of 20%.
What is the significance of grossing up in the calculation of IHT on lifetime transfers?
Grossing up is a process where the value of a gift is increased to find the total value transferred before the tax due is calculated. It is relevant when the transferor pays the tax in addition to the gift itself. The reduction in the value of the transferor’s estate includes the amount of IHT paid as well as the gift itself.
What is the difference between the free estate and the succession estate?
The free estate refers to assets that pass to the PRs to be administered under the will or intestacy rules, while assets outside of the succession estate do not fall to the PRs and pass according to their own rules.
Who is primarily liable to pay IHT on a failed PET?
The lifetime recipient (donee) is primarily liable to pay the IHT due on a failed PET.
Who is primarily liable to pay IHT on an LCT that becomes chargeable following the donor’s death?
The trustees are primarily liable to pay any further IHT due on an LCT that becomes chargeable following the donor’s death.
Who becomes liable to pay IHT on a failed PET if the lifetime recipient does not pay?
If the lifetime recipient of a failed PET does not pay the IHT due within the deadline, the deceased’s personal representatives (PRs) become liable.
Who becomes liable to pay IHT on an LCT that becomes chargeable following the donor’s death if the trustees do not pay?
If the trustees of an LCT that becomes chargeable following the donor’s death do not pay the IHT due, the deceased’s personal representatives (PRs) become liable.
Who is liable to pay IHT in respect of the free estate?
The personal representatives (PRs) are liable to pay IHT in respect of the free estate.
What is the general rule regarding the payment of IHT from residue?
The general rule is that IHT is payable from residue unless a contrary intention appears in the will. Gifts in a will (other than residue) are deemed to be given free of tax, whether or not these words are expressly stated.
What is the burden of IHT in respect of assets that do not pass to the PRs?
The burden of IHT in respect of assets that do not pass to the PRs rests with the recipient of the gift or trustees of a trust.
What is the Annual Exemption (AE) and how does it work?
The AE allows individuals to make gifts of up to £3,000 each tax year free from IHT. It is applied chronologically to transfers when they are made. If more than one transfer is made on one day, the AE is applied pro rata. Once the AE for the current tax year is used first and in full, a transferor may look back to the previous tax year and use any part of the AE from the previous tax year that was not used at the time.
What is the Family Maintenance exemption for inheritance tax?
Maintenance payments made to a spouse, minor child, or dependent relative are not treated as transfers for IHT purposes and are exempt from tax.
What is the Small Gifts allowance for inheritance tax?
Small gifts of up to £250 per recipient can be made free from tax. The small gifts exemption applies separately to each recipient, with no limit to the number of different recipients.
What is the Marriage Exemption for inheritance tax?
A gift given in consideration of a marriage to a party of that marriage is exempt from tax up to certain limits, depending on the relationship between the donor and donee.
What is the Normal Expenditure out of Income exemption for inheritance tax?
Normal expenditure out of income is exempt from IHT if it is made from the donor’s income, part of a normal/regular pattern of giving, and does not affect the donor’s standard of living.
What is Taper Relief for inheritance tax?
Taper relief reduces the amount of IHT due on a lifetime gift that becomes taxable following the donor’s death.
What are some exemptions and reliefs that apply to chargeable lifetime transfers only?
Exemptions and reliefs that apply to chargeable lifetime transfers only include the annual exemption, family maintenance exemption, small gifts exemption, marriage exemption, normal expenditure out of income exemption, and taper relief.
What is the purpose of taper relief in relation to inheritance tax?
Taper relief is not an exemption but it reduces the amount of inheritance tax (IHT) that would otherwise be payable. To apply taper relief, two conditions must be met: a lifetime transfer was made 3-7 years prior to the transferor’s death, and IHT is payable in respect of the lifetime transfer. Taper relief does not reduce the value of the transfer or alter the rate of IHT, but it proportionately reduces the final tax bill based on the number of years between the date of transfer and death.
What triggers an inheritance tax charge in relation to lifetime transfers and the death estate?
When someone dies, their death can trigger an inheritance tax (IHT) charge in respect of the death estate and a separate IHT charge in respect of lifetime gifts. It is necessary to calculate the tax due on lifetime transfers separately from tax due on the death estate.
What is the distinction between tax avoidance and tax evasion?
Tax avoidance refers to the efficient and lawful arrangement of a client’s affairs to minimize their tax liability. It involves complying with legislation and exploiting available exemptions and reliefs. On the other hand, tax evasion involves withholding information about assets or income, or taking steps to avoid paying the tax one is liable for. Tax evasion is unlawful.
What is the effect of making a gift with reservation of benefit (GROB) on inheritance tax?
When a person makes a gift with reservation of benefit (GROB), they give away an asset but continue to benefit from it. In this case, no inheritance tax (IHT) saving is achieved, and the property is treated as never having left the person’s estate. The value of the property at the date of death is included in their death estate. GROB rules are an example of the effect of anti-avoidance legislation.
What is the purpose of taper relief in relation to a failed potentially exempt transfer (PET)?
Taper relief can be applied to the inheritance tax (IHT) due regarding a failed PET. The rate of taper is a reduction in the IHT due, typically 80% of the original amount. The availability of taper relief depends on the number of years the person survived after making the PET. If the PET fails and the person survives for a certain period, they can claim a proportionate reduction in the tax bill.
What is the marriage exemption in IHT planning?
· A gift given in consideration of a marriage to a party of that marriage is exempt up to:
* £5,000 if made by a parent of one of the parties
* £2,500 if made by one party of the marriage to the other
* £2,500 is only for grandparent or great-grandparent; and
* £1,000 in any other case.
- NB: marriage exemption and the annual exemption can both be claimed in respect of the same gift.
What is the spouse exemption in IHT planning?
The spouse exemption allows all transfers between spouses or civil partners to be fully exempt from inheritance tax. There is no limit to the amount that can be claimed. It is usually beneficial for both parties in a marriage to have assets of their own to carry out tax planning and make use of exemptions.
What is the charity exemption in IHT planning?
The charity exemption allows all transfers to charity to be fully exempt from inheritance tax. There is no limit to the amount that can be claimed. Clients should be advised that they can make tax-free gifts to charity, but very large gifts may only be suitable for wealthy clients or those without family to support.
What are the business and agricultural property reliefs in IHT planning?
Business property relief (BPR) and agricultural property relief (APR) are exemptions that apply to transfers of qualifying business or agricultural assets. They can provide significant tax benefits for clients who already have property that qualifies. Care should be taken to ensure that nothing is done to compromise these reliefs.
What assets are excluded from the taxable estate in relation to inheritance tax?
Discretionary pension lump sum payments and life insurance policies written in trust are excluded from the taxable estate.
How can clients mitigate the risk of dying within 7 years after making a potentially exempt transfer (PET) for inheritance tax purposes?
Clients can mitigate against the risk of dying within 7 years by taking out fixed term life assurance specifically to cover the cost of any inheritance tax on the PET. This type of life insurance policy would pay out a lump sum if the donor died within the 7 years after the transfer.
What should be considered when making gifts via potentially exempt transfers (PETs) or lifetime chargeable transfers (LCTs)?
When making gifts via PETs or LCTs, it is important to ensure that the client has sufficient capital to make the gift, as it will be impossible to recover the money once the gift is made without the beneficiary’s consent. Additionally, clients should consider giving away assets that are likely to increase in value over time to maximize the tax planning benefits.
