Estate planning update

Saint Ignatius Loyola prayed “to give and not to count the cost”. But in the context of estate planning, giving can be dangerous. If the validity of a gift is impugned, the recipient may be stepping into a technical minefield. A valid gift may have unforeseen, possibly disconcerting, even catastrophic tax consequences.

Undue influence

Estate planning gifts frequently coincide with downsizing, often by a widow or widower who decides to sell their home and move in with a son or daughter. Practitioners are familiar with the family tensions that often result.

In Hart v Burbidge [2013] EWHC 1628 the court was asked to look at the arrangements that were made by and for Mrs Phyllis Hart in the months prior to her death in 2008. Mrs Hart had three children, two sons and a daughter, Susan. Mrs Hart’s will gave specific legacies of two properties to the two sons. Mrs Hart, Susan and her husband decided to buy a large house to occupy jointly. They sold their existing homes and Mrs Hart also sold the two other properties which had been mentioned in the will. The new house was purchased in the names of Susan and her husband. Mrs Hart moved in with them but died soon afterwards.

As the properties were no longer in Mrs Hart’s estate, the sons’ legacies were adeemed and the gifts in the will were ineffective. The sons claimed that Susan had benefited as a result of undue influence over her mother. In a lengthy judgment, the court concluded that a presumption of undue influence arose which Susan had been unable to rebut. It was significant that Mrs Hart had not had independent advice on the property sales and purchase, the tax consequences of those transactions, and the effect of them on her will.

Several of the sons’ arguments were unsuccessful. They failed in an argument that somebody who knows the terms of a person’s will has a duty not to act in a way which invalidates gifts under the will. The court also held that it was irrelevant that Susan held her mother’s enduring power of attorney. Susan had not attempted to act as attorney; the mere fact of holding an EPA did not impose any fiduciary duty on her.

Gifts under power of attorney

There is a common misconception that a deputy or the holder of an enduring or lasting power of attorney (EPA or LPA) has the same unrestricted power to make gifts as the donor would have had personally, had they still had mental capacity. This is not correct, as the deputies in the recent case of Re GM (Court of Protection decision No. 11843118, 22 April 2013) found to their cost. They belatedly applied to the court for retrospective approval of gifts exceeding £250,000, over half of GM’s financial resources, including gifts to themselves and their own families worth over £170,000. The court declined to approve the non-charitable gifts and ordered the Deputies to reimburse GM.

Although the court in Re GM noted that in the Mental Capacity Act 2005 parliament deliberately avoided prescribing a limit for gifts by an attorney or deputy, the judgment sets a threshold for gifts not requiring prior approval from the Office of the Public Guardian. A deputy or attorney does not have to seek approval for gifts covering the annual IHT exemption of £3,000 and the annual small gifts exemption of £250 per person, up to a maximum of ten people, where P’s life expectancy is five years or less, their estate exceeds the inheritance tax nil rate band, the gifts are affordable and there is no reason to believe P would have objected to them.

Surprisingly, the Court of Appeal recently held that where P and the attorney have a joint bank account, the attorney with P’s consent may be entitled to make gifts out of the money on the account on the authority of the bank mandate, even though such gifts are beyond the scope of the Power of Attorney (Day v Royal College of Music [2013] EWCA Civ 191).

An attorney or deputy may want to make gifts with estate planning in mind, when there is no convenient joint bank account and/or where P is no longer capable of giving his consent. Lump sum gifts will always require approval from the OPG. This is worth considering where there is a realistic chance that the donor will survive for three years (and ideally for seven years), or where there is a deadline for a particular IHT saving gift (such as the two year period for post death variations). The first and paramount consideration for the court is whether the gift is in P’s best interests. Other relevant issues will be P’s previous gifts or loans made before the onset of incapacity; P’s anticipated life expectancy; P’s actual or potential care costs, the extent to which any gifts may conflict with the devolution of P’s estate under his or her will or intestacy; and the impact of inheritance tax on P’s death.

Often the attorney or deputy may wish to establish a pattern of regular gifts out of surplus income, which will be exempt from IHT on P’s death. An attorney under an EPA has express authority to make gifts which the donor might be expected to make in order to provide for another person’s needs. Deputies are usually given similar authority.

Gifts for tax planning purposes

Attempts to give an attorney under an LPA the power to make gifts for dependents and/or for tax planning have rarely succeeded. The OPG website lists numerous cases where such provisions have been held to contravene section 12 of the Mental Capacity Act 2005. In Re Baker (12 November 2010) the court struck out a restriction purporting to “authorise my Attorneys to make gifts from my assets on such terms and conditions as they think fit, for the purposes of inheritance tax planning, including but not restricted to the making of gifts in line with the annual lifetime gift allowance”. The court also removed an LPA guidance provision requesting that the “attorneys will continue to make contributions to my grandchildrens’ Child Trust Funds and any other saving/pension plans that I fund for their benefit” (Re Wheatley, 31 ?January 2011).

The court has been grudging even to spouses (Re Bloom, 16 March 2012) authorisation to “make provision for my wife’s maintenance and benefit” was amended to “maintenance” only.

The OPG’s cavalier attitude to LPAs which purport to grant the attorney gift-making powers has led to an overwhelming volume of applications for gifts. Re GM is presumably an attempt to reduce the need for straightforward low-value applications. But it is also a warning to attorneys as well as deputies who assume they have an unfettered discretion to make gifts.

It is clear from the IHT Manual that HM Revenue regards the mere existence of a power of attorney disclosed in Form IHT400 as indicating the possibility of lifetime gifts by the deceased (IHTM14023) and the Revenue is alert to the fact that gifts by an Attorney may be unauthorised and therefore invalid (McDowall v IRC [2004] STC 22, referred to at IHTM14251).

Gifts designed to defeat other claims

Practitioners advising on lifetime gifts need to bear in mind the court’s jurisdiction to set aside transactions intended to defeat claims by creditors (under sections 423-425 of the Insolvency Act 1986) or by a spouse for financial relief (under Section 37 of the Matrimonial Causes Act 1973).

The court’s matrimonial jurisdiction was successfully invoked in AC v DC [2012] EWHC 2032. Some months after the breakdown of the parties’ marriage, H had transferred a controlling private company shareholding, worth over £50m, to Isle of Man trustees. A complex series of onward transactions followed. In 2012, W challenged H’s transfer on the basis that it was not for valuable consideration and was intended to defeat her claim for financial provision on divorce. Surprisingly, H supported W’s application to set aside the transfer, as he and his advisers had realised it would produce a disastrous tax result. HM Revenue was not represented. Mr Justice Mostyn held that H’s transfer was voidable and should be set aside as W had requested. Section 150 Inheritance Tax Act 1984 meant that for IHT purposes it was as if the transfer was never made.

By contrast, lifetime gifts intended to defeat family provision claims under the Inheritance (Provision for Family & Dependents) Act 1975 may be set aside under Section 10 of that Act, but are not voidable, so Section 150 does not apply and IHT remains chargeable on the gift as a failed PET.

Gifts and loans back

It is sensible estate planning for an elderly client to pass assets to the younger generation as soon as possible. This gives the best chance of the donor surviving for seven years and of avoiding mental incapacity complications. But life expectancy is uncertain, care costs are ever-increasing, and elderly donors may find themselves running out ?of money.

This cash flow difficulty creates a tax problem. While there may be a tacit agreement within the family that the recipient of the gift will “see Mum right” if necessary – though hopefully no written agreement to that effect, which could amount to a reservation of benefit in the original gift – the recipient child should not make a loan to the donor parent as this will not be deductible as a debt of the parent’s estate on her death (see section 103 Finance Act 1986). Section 103 applies irrespective of the length of time that has passed since the original gift; a son or daughter who has received help from the “Bank of Mum and Dad” to get on the property ladder should avoid lending to Mum or Dad in old age as this will be disallowed as an IHT deduction from their estate.

A loan from another family member who has not received any financial benefit from the deceased in their lifetime should qualify as a debt deductible from the estate for IHT, provided always that it is actually discharged out of the estate, under the new rules introduced in the 2013 Budget and now enacted as Section 175A (1) and (2) of the Inheritance Tax. SJ

Helen Bryant is a partner at ?Farrer & Co

www.farrer.co.uk

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