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Matthew Hutton MA, CTA (fellow), AIIT, TEP, author and presenter of Monthly Tax Review (MTR), highlights some planning issues in the context of an important Inheritance Tax relief.   

Matthew Hutton

Context

The two year ownership rule in IHTA 1984, s 106 needn’t present insuperable problems.

The claw-back

The general rule under IHTA 1984, s 113A is that, to maintain the benefit of Business Property Relief, (BPR), the asset given away must (subject to reinvestment in replacement property under s113B) be retained by the donee for at least seven years or until the earlier death of the donor (or donee) and must continue to be relevant business property in his hands.  However, under s 113A(3A) the claw-back provisions do not apply where the asset is unquoted shares in a qualifying trading company which cease to attract relief, eg by becoming an investment company. 

Death-bed planning: maximising the value of the trading company

Dividend waivers

IHTA 1984, s 15 provides ‘a person who waives any dividend on shares of a company within twelve months before any right to the dividend has accrued does not by reason of the waiver make a transfer of value’.  Much better, subject to excepted assets under s 112, to have cash which would be used to pay a dividend retained in the company rather than be paid out only to attract IHT on death of the shareholder – assuming not required for cash flow purposes.

Rights issue

Consider injecting cash into the company under a rights issue pursuant to s 107(4) – again, provided that the company will remain wholly or mainly a trading company and none of the cash will be excluded under s 112.  Section 107(4) provides that where the unquoted shares owned by the transferor immediately before the transfer would under any of the provisions of TCGA 1992, ss 126-136 be identified with other shares previously owned by him, the period of ownership of the original unquoted shares shall be treated for purposes of s 106 as including the period of ownership of the other shares. 

(Nick Hughes of Chiltern, at IIR’s Onshore & Offshore HINWIs Conference in London on 14 November 2007)

Maximising value of relevant business property attracting 100% relief

The basic ownership qualification requires ownership of the relevant business property for at least two years before the transfer of value (subject to the replacement property rules), but not generally that the property has been relevant business property throughout that period.

Consider conversion of an investment company to a trading company while one of the shareholders is on his deathbed (but before he dies).

There would of course have to be clear evidence of the change in character of the company's business.  In other words HMRC Inheritance Tax must not be given grounds to argue that at the date of death there was simply an intention to trade on the part of the directors, as opposed to an actual conversion to trading status.

Consider before the death the transfer of assets to a trading company (subject to any CGT and SDLT implications).  

As to CGT, any gain arising on transfer to a company should be capable of hold-over under TCGA 1992, s 165.  If to a partnership, it may be possible to avoid a disposal at all (and therefore unnecessary to consider hold-over relief) if the asset is held in a capital account owned solely by the transferor. 

For SDLT, there will be a market value charge on land where the transferee company is controlled by the transferor.  (However, interestingly, this does not apply where the transferor is a partnership rather than a sole trader (see MTR 6/07 Item 3.5).  In this case, HMRC Stamp Taxes accept that the statutory rule is overridden by the special partnerships code.  Applying this code there will be no market value charge on transfer of the land from the partnership to the company, even though the company is controlled by members of the partnership, because the ‘sum of the lower proportions’ is 100.  There should be no SDLT liability at all if the transfer of land is to a partnership and all the partners are connected with the transferor.) 

Those assets, as long as used in the business of the company at the date of the transfer of value, should not be 'excepted assets' for IHT. 

Relief for successive transfers

The general two year ownership condition is displaced by a rule which applies where there are two successive transfers of value, one of which is a transfer on death.  If the earlier transfer attracted BPR, the second transfer being made by the transferee (in this case on death) may also attract the relief, notwithstanding that the two-year test is not satisfied.  Even if the first transfer was spouse exempt, it will be protected as a ‘successive transfer’, because it is still a transfer of value which would have been eligible for relief if such reliefs had been capable of being given in respect of transfers of value made at that time. 

Practical application of successive transfer relief

Example
 
Husband owns shares in the family trading company attracting 100% BPR.  His wife, who has some quoted investments and a half share in the home, is seriously ill and is likely to survive for only a few months.  A transfer of some of the private company’s shares from husband to wife would enable them to pass into a family discretionary trust on her death, both to ‘lock into’ the present rate of BPR at 100% and to secure the CGT-free uplift to market value on death (a better result than an effective rate of 10% on sale by the husband, to rise to 18% from 2008/09).

BPR at 100% would apply to the company shares left by the wife’s Will to a discretionary trust under which the husband was one of the beneficiaries.  This has the advantage of allowing the husband to benefit from income or capital in the trust (including the shares), without fear of the reservation of benefit rules.  Further, the husband could buy some trading company shares back from the trust in the future, allowing a second bite at the BPR relief cherry if he plans to hold the shares indefinitely and eventually to leave them to his children. 

Note that this arrangement would have the same effect with unmarried persons or even different generations.  A gift to an inter vivos interest in possession trust with subsequent discretionary trusts might be considered an ideal solution.

About Monthly Tax Review (MTR)

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