Tax planning for everyone
Following the media furore over the late Duke of Westminster's estate, Eamonn Daly highlights the differences between legitimate tax arrangements and abusive avoidance
Press attempts to stir up national indignation over the relatively small amount of inheritance tax (IHT) to be paid by the Grosvenor Estate turned into a damp squib as tax specialists lined up to point out that the deceased Duke of Westminster’s use of tax-planning techniques to limit the estate’s tax liabilities were perfectly legitimate and equally available to every other citizen.
It was widely reported that tax was avoided through the use of trusts, agricultural property relief, and business property relief, all of which are uncontroversial ways of mitigating tax, explicitly allowed by law.
Trusts have historically helped to keep ancestral estates intact and prevent more wayward heirs from dissipating their inheritance through extravagance, bankruptcy, or divorce. Even for ordinary folk, trusts allow taxpayers to gift their assets, so they do not fall into their estate for IHT purposes, providing some asset protection while retaining a measure of control. In most trusts set up in an individual’s lifetime, there is an IHT charge of a maximum of 6 per cent of the value of the assets every ten years, so it may be that, over the years, the duke’s trusts will have made substantial tax payments.
Trusts can be used by everyone, although, obviously, for most people it would be on a much smaller scale than that of the Grosvenor Estate. The 6 per cent ten-yearly rate generally only applies to the value in excess of £325,000 of trusts set up by an individual. Trusts worth this amount could potentially result in a saving of £130,000 of IHT (or £260,000 for a couple), providing the person transferring cash or assets into the trust survives for at least seven years post transfer. Importantly, once assets are placed into a trust, in order to be effective for IHT purposes, the person setting up the trust would usually never be able to have access to those assets for their own use.
Given the rapid rise in house prices over the last 20 years or so, more people than ever before will be in the IHT net and placing assets in trust could enable them to be passed to their beneficiaries free of tax. For example, if a couple were both to die in the current tax year, owning a property worth £500,000 and cash or investments worth £150,000 and having set up trusts with other assets more than seven years ago now worth £200,000, everything could pass free of IHT. If, however, they owned all of the assets personally outside a trust, the tax liability could be £80,000.
Generally, tax reliefs are granted to encourage activities which the government sees as desirable, so, in the case of farms and trading businesses, agricultural property relief and business property relief are both available. These reliefs mean that both farms and businesses which qualify can be passed on to the next generation rather than being broken up to raise cash to pay tax on the death of the owner. Business property relief can also apply to shares held in unquoted trading companies, including those listed on the alternative investment market. These reliefs are available for anyone so long as the qualifying conditions are met.
Abusive tax avoidance
The use of both trusts and reliefs represents the legitimate arrangement of affairs within taxation legislation specifically created by parliament to mitigate tax liabilities. This is quite different from the exploitation of loopholes which deliberately seeks to circumvent the tax rules in order to achieve tax benefits never intended by parliament.
Indeed, HMRC has recently published guidance, ‘Tax avoidance: An introduction’, in which it warns that it will designate anyone involved in abusive tax avoidance schemes which use aggressive and artificial arrangements to secure a tax benefit as high risk and scrutinise their tax affairs accordingly.
Abusive tax avoidance is the focus of new legislation intended to target not only those benefiting from such perverse arrangements but also those advising on, and promoting, them. There are a number of legitimate concerns about the proposed legislation, not least in some of the imprecise wording which could lead to reputable advisers, who have proposed a potential scheme in good faith but with which HMRC disagrees, finding themselves on the wrong side of the law. The proposals have recently been the subject of a public consultation to which the government will respond in due course.
Individuals should still plan their affairs to take advantage of available tax exemptions and reliefs. Tax planning is still an essential method of ensuring that your accumulated wealth is protected as tax efficiently as possible so that you can pass on your hard-earned assets to your heirs. The key is to seek advice from reputable advisers with up-to-date knowledge of the maze of tax law and practice.
Eamonn Daly is a partner at Wright Hassall, specialising in tax, estate planning, and trust advice