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Mark McLaughlin CTA (Fellow) ATT TEP highlights a recent Special Commissioners case, which tested the generosity of a particular inheritance tax exemption.

{mosimage}A generous regime?

Many tax reliefs and exemptions are subject to an upper monetary limit. For Inheritance Tax (IHT) purposes, examples include the following (all references are to IHTA 1984):

• an annual exemption of £3,000 (although if the total value of gifts in one tax year is less than £3,000, the balance can be carried forward to the next tax year)(s 19);
• a ‘small gifts' exemption of up to £250 per donee (although there is no restriction on the number of recipients) (s 20); and
• a limited exemption for wedding or civil partnership gifts, i.e. £5,000 if the donor is a parent of a party to the marriage or civil partnership, £2,500 if the donor is a remoter ancestor or is one of the parties to the marriage or civil partnership, or £1,000 for any other donor) (s 22).

However, the IHT regime is potentially much more generous in other respects. For example:

• normal expenditure out of income is exempt with no upper limit, if certain conditions are satisfied (broadly that the gifts were part of the donor’s usual expenditure, were made out of income, and left the donor with sufficient income to maintain his normal living standard (s 21);
• gifts or legacies to UK-based charities are wholly exempt (s 23); and
• certain ‘dispositions' (eg gifts, payments or actions, such as the waiver of salary or dividends if certain conditions are satisfied) are not treated as transfers of value, and are not taken into account for IHT purposes, with no fixed monetary limit (ss 10-17).

The last category includes payments for the maintenance of certain family members, eg a current or ex-spouse or civil partner, the donor’s children (including illegitimate or adopted children, and step-children) who are under 18 and in full-time education, and relatives who are dependent due to old age or infirmity (s 11).

In the case of dependent relatives, the exemption applies to the extent that the disposition represents a ‘reasonable provision' for his care or maintenance (s 11(3))

Reasonable provision

In McKelvey (Personal Representative of McKelvey Deceased v Revenue and Customs Commissioners (2008) SpC 694),  the deceased (D) was a spinster who lived with her widowed mother (M), who was 85 years old, blind and in poor health. D was diagnosed with terminal cancer, and in 2003 gave away two houses that she owned to M. D died in 2005, and M died in 2007. HMRC sought to charge IHT on the value of D’s gift of the houses to M of £169,000. D’s executor appealed, on the grounds that the gifts were exempt transfers within s 11(3) as a disposition being a reasonable provision for the care and maintenance of a dependent relative. The executor contended that D gave the houses to M so that they could be sold to pay for nursing care.

The executor’s appeal was allowed in part. The Special Commissioner held that it was reasonable for D to assume that M would need residential nursing care. The difficulty in this case was in determining what was ‘reasonably required' for this purpose. The Commissioner concluded that ‘reasonable provision at the time the transfers were made amounted in all to £140,500'. This amount qualified for exemption under s 11, with the balance of £28,500 being a chargeable transfer (s 3A(4)).  

What is ‘reasonable'?

HMRC’s published view of what represents reasonable provision for the care or maintenance of a dependent relative states the following (at IHTM 04177):

“‘Reasonable' would appear to suggest such amount as is reasonably necessary for the purpose of providing care and maintenance (but no more), having regard to the financial and other circumstances of the transferor and the relative and the degree of incapacity or infirmity of the latter."

However, the Commissioner held that, in determining what was reasonably required for M’s care: “It seems to me that the approach adopted in personal injury cases is appropriate." This was to take a multiplier of 5.5 (being the assumed number of years that M would have required paid nursing care on the evidence) and an annual care cost in M’s own home of £21,000. This resulted in a basic sum of £115,500, to which a further sum of £25,000 was added to cover the contingency for higher cost if M was admitted to a home.

HMRC consider that the dependent relative’s incapacity needs to be financial as well as physical (IHTM04179). However, contrary to HMRC’s guidance in the circumstances, the Commissioner also held: “…I do not think it appropriate to make any adjustment in respect of [M’s] own resources since the deceased’s evident intention was not to meet a financial shortfall but to provide for the replacement of what she herself had been doing at no cost to her mother."

A disposition for the maintenance of family members that does not wholly satisfy the relief conditions may be apportioned (s 11(5)) so that, for example, the non-qualifying element of a gift to the family member is separately treated as a potentially exempt transfer. In HMRC’s view “…an apportionment under s 11(5) is appropriate only where the disposition of an identifiable part of the property transferred completely satisfies Section 11 IHTA 1984." The Commissioner considered that this apportionment provision enabled the appeal to be allowed in part, and concluded that £140,500 out of £169,000 represented reasonable provision for M’s care, within s 11.

Whilst the exemption is s 11 is not subject to a monetary limit, large gifts are likely to be subject to scrutiny by HMRC, in terms of ensuring that the relevant conditions are satisfied.