Life line

Many view death and taxes as equally certain but, for most, the two do not coincide. A combination of the fall in stockmarkets and property values, the steady rise in the inheritance tax (IHT) threshold up to £325,000 in 2009, the generous reliefs and the ability to make potentially exempt transfers has meant that only a very small percentage of estates incur a liability.

Partly as a result of its low yield (approximately £2.4bn for the year ended 31 March 2010), the tax has been largely untouched, with the exception of specific anti-avoidance measures introduced from time to time in response to tax planning arrangements and, of course, the welcome introduction of ?the transferable nil-rate band.

However, things do appear to be changing, and advisers and their clients need to be aware of current developments. There are signs that the government/HM Revenue and Customs are focusing more on IHT to bring the department’s approach into line with other taxes and possibly to make ?it more cash-generative.

Testing times

While it has, since 2006, been necessary for promoters to notify HMRC of income tax, corporation tax and CGT avoidance schemes, no such requirement has applied to IHT planning – until now.

The target for the disclosure regime is planning involving the transfer of property into trust so that it becomes relevant property. This immediately limits its application so that where arrangements do not, at any stage, lead to property becoming relevant property, the scheme will not require disclosure. This is the first test.

The second test requires there to be a tax advantage specifically in respect of the ‘relevant property entry charge’ when an individual makes a transfer of value as a result of which property becomes relevant property. ‘Advantage’ is not defined and so is to be construed widely so that it covers the avoidance, reduction, relief from, or deferral of, the relevant property entry charge.

The third test requires the tax advantage to be a main benefit of the arrangements. HMRC sets out its stall by saying that this is an objective test which can be applied by comparing the value of other benefits likely to be enjoyed. HMRC goes on to say: “We expect it to be obvious to any potential client what the relationship is between the tax advantage and any other benefits of the product they are buying/the arrangements they are entering into.”

This might be rather simplistic. All practitioners know that there are sound non-tax reasons why property is transferred into trust, principally around control and wealth protection. There will therefore be cases where it is difficult to make a purely objective comparison between quantifiable IHT benefits and the benefit of protecting capital against potential future risk. ?It remains to be seen if the regime catches bona fide asset protection arrangements as opposed to being limited to new strategies which HMRC considers to be provocative.

There are grandfathering provisions which exclude from the regime the more common IHT planning techniques which meet the criterion that the arrangement was available in a similar or substantially similar form before 6 April 2011. This is a useful list to refer to when considering the possible application of the new rules.

Closing the gaps

In March 2011, the Office of Tax Simplification (OTS) issued its report which identified 1,042 reliefs in the UK tax system, of which 27 are IHT reliefs or exemptions. In relation to IHT, the report says that changing individual reliefs would be overly problematic as many, such as potentially exempt transfer (PET), are integral to the operation of the tax and define what is taxed and when.

The report continues, saying: “On the basis of the low number of estates caught by IHT and the useful, but relatively low revenues (after reliefs) that it raises, we consider that a more appropriate approach may be to review the whole of IHT rather than to consider individual IHT reliefs. Such a review ?may also encompass a review of capital gains tax and we envisage this as a longer-term project.”

Any review needs to start with an examination of IHT’s purpose and whether or not the same effect can be achieved in a different way, such as by a wealth tax. It will also be interesting to see whether or not the idea of a donee-based tax considered by the Labour opposition before the election in 1997 will be revisited, though in this case it is unlikely to be simplification.

Given the close interrelation between IHT and CGT the review can be expected to encompass CGT as well, and it is possible that changes might be made, ?for example, to S260 holdover relief so that it is dependent upon IHT actually being payable.

While it might be interesting to speculate on the direction the review might take, given the limited IHT revenues and the ever-increasing demands on the Treasury (even before the current time of austerity), it is unlikely that the overall burden of taxation will be reduced. In reality, the yield is more likely to increase, making it more difficult for wealthy families to avoid IHT, resulting in a rebalancing of the burden of the tax.

Action stations

So what should the reaction be to the OTS report? In essence, planning can only be undertaken with certainty based on what is known at the time. What we do know is that, although the nil-rate band has been fixed up until 2015, for many, property and portfolio values are historically low and are not increasing significantly at the moment. Therefore, the fixing of the nil-rate band for the short-term should not stop planning from being undertaken. With CGT holdover relief still being available against capital gains arising on the gift of certain assets and on most gifts into trust, fixing IHT values at today’s date is attractive. Even if CGT is payable, for some it might be an acceptable cost of the IHT planning. We also know that the current IHT regime is relatively benign, so there is every incentive to take advantage of the current tax rules to ensure that ?IHT is minimised.

Any review is likely to take a number of years and so we could well have advance warning of its likely impact. Nonetheless, there is still no time like the present for taking action. Delay, combined with rising values and a possible future extension of the survivorship period for exemption, for instance, and restrictions to CGT holdover relief, could leave many families in financial difficulty.

The world of IHT is changing. The introduction of the disclosure of tax avoidance schemes (DOTAS) requirements brings IHT into line with other taxes and, while the provisions may well prove to have limited application, the regulations will need to be considered by practitioners when advising their clients.

The potential effect of the announced review of the tax is less certain. It may well be some time before we know the key objectives of the review, let alone the detail of what it will cover, but it is hoped that the timescale and process will allow informed planning ahead of any changes being enacted. In the meantime, full advantage of the current rules should be taken because, although things might become simpler, the overall IHT burden is only likely ?to increase. n

Stephen Barratt is a director in the private client department at accountants James Cowper