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Matthew Hutton MA, CTA (fellow), AIIT, TEP highlights some potential problems in an Inheritance Tax planning arrangement.

Matthew Hutton

Context: settling more than the nil-rate band

My article in Taxation of 16 August 2007 made five suggestions as to ways in which value of more than the nil-rate band might be settled without triggering an immediate charge to IHT.  Among these were sales at an under-value, as follows.

Example

Suppose that the settlor wants to settle property in excess of the nil-rate band.  He might make a sale of that property to the trustees for a consideration equal to the excess over the nil-rate band.  Thus property worth £1 million would be sold for £700,000, reducing the transfer of value to £300,000 which would be left outstanding on loan account, non-interest bearing and repayable on demand.  This would limit the chargeable transfer to £300,000, but would ensure that any growth in value accrued to the trust.  Typically the loan would be repaid on sale of the trust asset if not on death of the principal beneficiary.  If the asset settled is land, SDLT would be payable by the trustees on the consideration. 

Other implications

Hold-over relief from CGT under TCGA 1992, s 260 would be available (to the extent that the consideration exceeds the allowable expenditure: TCGA 1992, s 260(5)).  For income tax, both articles and conferences have stressed the importance that it is a life interest and not a discretionary settlement, given the provisions of ITTOIA 2005, ss 633-643 imposing an income tax charge on the settlor in the event that the loan is repaid at some stage, if there were undistributed income in the structure in the year of repayment or any of the following 10 years.

A note of caution 

Malcolm Gunn has commented that he used to think that the mechanism was ideal in managing the IHT position, although now he is a bit wary of it.  Cases such as Jenkins v CIR (1944) 26 TC 265 say that loans from the settlor give the settlor an interest in the income of the trust.  And it will of course then be settlor-interested both for CGT and income tax purposes.  CGT hold-over relief is precluded in a settlor-interested case (TCGA 1992, s 169B).  And there could be a POA charge as well, as the loan is not thought by Counsel to be a reservation of benefit in the trust (being a ‘carved out’ interest).  A number of Counsel disagree with the Jenkins decision – and it is not known what view HMRC take.  But the warning should perhaps be sounded.

(Email to me 20 August 2007 from Malcolm Gunn from Squire, Saunders & Dempsey)

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