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In the Sixth of a series of extracts adapted from his eBook 'Hutton on Estate Planning' (3rd Edition), Matthew Hutton looks at Inheritance Tax (IHT) planning issues involving chattels and investments.

Chattels

Overview

It often comes as something of a shock to people to discover quite how much the contents of their house (or houses) and other personal possessions are worth. But all that value is potentially subject to IHT on death; subject of course to the spouse/civil partner (and possibly the charities) exemptions. There remains still a widespread but mistaken belief that in valuing chattels on death there is a permissible discount from market value of something up to one-third. That is not the case, as HMRC Trusts and Estates have been reminding us at various points over the last two to three years. The statutory valuation rule  is ‘the price which the property might reasonably be expected to fetch if sold in the open market’ at the date of death (IHTA 1984 s 160).

So, what’s to be done?  The answer could be as follows.

Planned Lifetime Giving (Without Retention)

Remember, for example, that the £3,000 Annual Exemption could be constituted by chattels just as much as by cash. A gift will be a disposal for Capital Gains Tax (CGT) purposes and so will trigger a liability if the total chargeable gains exceed the Annual Exempt amount for the year (£10,100 for 2010/11). There is an exemption for a chattel if its value does not exceed £6,000 (which also applies to a set of chattels given away at the same time: TCGA 1992 s 262). But of course, to be effective for IHT purposes there must be no continuing enjoyment of the chattel; hence, alternatively:

An Effective Gift of the Chattel Followed by Continued Enjoyment by the Donor for ‘Full Consideration’

So long as ‘full consideration’ is paid (whatever that may mean) there is specific exemption from both the 'Gifts With a Reservation of Benefit' (GWR) Regime (FA 1986 Sch 20 para 6(1)(a)) and the 'Pre-Owned Assets' (POA) regime (FA 2004 Sch 15 para 11(5)(d)). It has been customary over recent years for prospective donor and donee, e.g., mother and son, to have a gift of chattels by mother to son to be accompanied by a licence or lease arrangement under which typically mother covenants to pay the insurance premium on behalf of son and on that basis to pay such an annual fee independently agreed between qualified agents acting for each party as will constitute full consideration. In the present marketplace this may amount to no more than 1% of market value, to be kept under review every three years. This of course, on which the donee must pay Income Tax, compares rather favourably with the annual amount on which the Income Tax liability is based under the POA regime, assuming no GWR (which is the value at the beginning of each five year period, multiplied by the ‘official rate’ of interest, which is 4.00% for 2010/11 and 4.75% for 2009/10). The CGT implications of the gift must be considered. 

While such arrangements were being vigorously challenged by HMRC Trusts and Estates some years ago, that threat appears now to have receded. On the other hand, anyone entering into such an arrangement needs to be warned that it is not exactly for ‘widows and orphans’ and so, while taking the best advice and complying with it, nothing can be guaranteed. But of course once seven years have passed after the gift and the PET has become exempt (and full consideration continues to be paid for the rest of the donor’s life or until she ceases to enjoy the assets), the chattels concerned will effectively have been extracted from the chargeable estate free of IHT while enabling continuing enjoyment, at only a relatively small annual cost.

Investments

Investments within a person’s ownership may take a variety of forms: equities, unit trusts, government stock, PEPs or other rather more weird and wonderful creatures. But, like any other property the market value will fall into charge at death. While, under the Enterprise Investment Scheme and the Venture Capital Trust Scheme, certain Income Tax and CGT reliefs are available during life, the only IHT-saving opportunity open here (other than for family-owned companies) is Business Property Relief (BPR) for shares listed on the Alternative Investment Market (AIM). 

The GWR regime applies to gifts of investments as much as to any other property. And, in the case where GWR does not apply, and there has been a disposal of investments into a settlor-interested trust, there may be an annual Income Tax liability on 4.75% (in 2009/10) and 4.00% (in 2010/11) of the market value under the POA regime.

The difficulty of course is that everyone needs to live – and usually requires income for that purpose. There is no point in making an effective gift of a substantial amount of investments, surviving for seven years, then only to find that the donor has nothing left to live on. But investments will take their place in the overall family plan.

It may be that:

1. there are some investments surplus to requirements which, subject always to CGT considerations, can be given away;
2. the balance of the investments can be slanted rather more to the production of income than capital growth on which of course 40% IHT will ultimately have to paid; or
3. developing the concept of total return, a person may feel that he can ‘afford’ a rather larger gift of investments than might otherwise be the case if he can ‘live off capital’ in relation to the remainder – taking a reasonably conservative view of continuing life expectancy.

The above is an adapted extract from Hutton on Estate Planning 3rd Edition.

Hutton on Estate Planning - 3rd Edition

Established in September 2008, Hutton on Estate Planning - 3rd Edition is the ideal way for private client practitioners to keep up-to-date with developments in a fast moving world.

The electronic text will be available mid-September 2010, with the printed book ready for despatch in mid-October. Updates are made to the electronic text at least monthly and subscribers are notified by email of the changes, which are carried in the text in a second colour.

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Subscriptions run for 12 months from 1 October 2010, though subscriptions placed in September will secure access to the eBook as soon as it is available, anticipated to be Friday 17 September. The subscription price depends upon the number of subscribers each of which has their own password and includes a copy of the printed book. The cost of a 12-month subscription for up to 10 Users is just £199 plus VAT plus £5 p&p.
 
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THE ESSENTIAL FULL DAY ESTATE PLANNING UPDATE 2010

Matthew Hutton is running, for the 9th successive year, his Estate Planning Conference in three venues over Autumn 2010.

Topics to be covered: Capital Gains Tax – Looking Forward from 22 June; Trusts; Wills and Deceased Estates; The Foreign Element; The Family Business, The Family Farm, Compliance Issues, Problem Question and Discussion; And the Rest …

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