Estate Planning Now
Formerly a partner with Boodle Hatfield and now practising as a barrister from 8 Gray’s Inn Square)
(taken from Isssue No 2 – February 1997)
1 The Current Political Situation
These are exciting times for the estate planner. The current tax regime provides many opportunities for sensible tax planning but of course it may not last since the General Election must be held by – at the latest – 22 May. What will then occur?
A win for the Conservative party would spell the end for Inheritance Tax. Perhaps not immediately, but during the course of the Parliament it would almost certainly disappear. CGT will also be reformed although exactly how is far from clear. Outright abolition (allied to a strengthening in the borders of income tax) is one option; replacing the current tax system with a short term gains tax so that tax is not charged once the asset has been owned for (say) seven years is another. Historians will recall that CGT originated in a short term gains tax introduced by Mr Selwyn Lloyd, subsequently replaced in 1965 under the Wilson Government by the current fully comprehensive tax. But what if Labour wins?
A strengthening of Inheritance Tax (doubtless by means of a reintroduction of capital transfer tax principles) with its possible long term replacement by a true, European style Inheritance Tax; an overhaul of the UK rules on residence and domicile so that long term UK residents are within the tax net on their world-wide income and gains and so that disposals of UK real property are caught ithin the capital gains tax net even if the disponor is non-resident; and a general closing of loopholes and a strengthening of anti-avoidance legislation will all doubtless be on the menu. What will happen to CGT is less clear-cut – some reform is promised although it seems unlikely that this will result in a cutting back of tax to catch only short term gains.
(An impression of Labour Party thinking can be gleaned from the Tribune Report, ‘How to Tackle Tax Abuse’, and the Labour Party Policy Document ‘Tackling Tax Abuses’).
II Who’s Afraid of Ramsay?
The so-called ‘Ramsay’ principle was developed by the House of Lords to combat artificial tax avoidance schemes. In essence it enables the courts in the case of a pre-planned series of transactions containing one or more artificial steps – ie steps inserted purely to obtain a tax advantage – to excise such steps and by comparing the taxpayer’s position at the beginning and the end of the series, impose tax on ‘the reality’. Later decisions, and notably Fitzwilliam have revealed a ‘colossus with feet stuffed of clay’ and most recently the contrived group arrangement in Piggott v Staines Investments Co Ltd  STC 14 was upheld in the High Court and not appealed by the Revenue. Whilst the doctrine is still capable of applying in the most blatant cases, it is nothing like the force that was envisaged in the mid-80s and as a result we are living in a further age of ‘schemes’ (witness the significant amount of VAT recently said to have been lost as a result of ‘wily accountants’ – see The Times 30 January 1997).
Take two simple examples of tax planning. First, an individual resident but not domiciled in the UK, wishes to sell his UK company. He restructures the business by taking bearer shares; these are held off shore; a purchaser is then found and contract and completion occur off shoe so that the sale monies are not remitted to the UK. Capital gains tax is avoided and Ramsay is of no application (see, for instance, Craven v White  AC 398). Secondly, consider the classic circular instrumenyt of Variation.:
|Daughter||______________||Mrs T (life)|
|Daughter||______________||Mrs T (life)|
Property in excess of the IHT nil rate band is left to T’s daughter, within 2 years of death she redirects that property to her mother either by outright gift (Step 2) or on irrevocable life interest trust (Step 2 alternative) and subsequently either the mother ‘pets’ the property to the daughter or the mother’s life interest is made terminable in which event the property will pass to the daughter. Arrangements of this kind are frequently carried out and, given that there is noobligation on the mother to give the property to the daughter, they have not, in the author’s experience, been challenged.
III Business and Agricultural Property
100% relief from IHT for categories of business and agricultural property was introduced in 1992 and in the following year the categories have been widened to include all sizes of shareholding in unquoted trading companies as well as certain agricultural landlords. At the same time a spate of cases have come before the Courts and Commissioners; we now know, for instance, that commercial landlords will not normally be entitled to business relief (see Burkinyoung (Exor of Burkinyoung dec’d) v IRC  STC (SCD) 29 and Martin and anor (Exor of Moore dec’d) v IRC STC (SCD) 5 and note IHTA 1984 s105(3) excluding from relief the business of making and holding investments). BPR may be available if a company owns only cash at the date of death having sold – some considerable time before – its only business (see Brown’s Executors v IRC  STC (SCD) 277); whilst the standard accruer clauses found in professional partnerships do not prevent relief from applying on the death of a partner (see Law Society Gazette), September 1996). The future is cloudy, however, with the Labour Party known to be looking to restrict the relief (or as it is often put to ensure that it is ‘properly targeted’) so that it achieves its objective of ensuring that businesses are not broken up because of the imposition of capital taxation. Act now is the message!
IV Reservation of Benefit
There are few who can afford to give away substantial assets inter vivos and yet many remain subject to Inheritance Tax on death. ‘Cake and eat it’ arrangements were largely stopped in 1986 with the reintroduction of the reservation of benefit legislation. There are, however, two statute based exceptions to these rules: first, where the benefit reserved is de minimis (as to what constitutes de minimis see the helpful note in the Inland Revenue Bulletin for November 1993) and, second, enjoyment, where full consideration is furnished for the continued use of chattels or land. Shearing operations (or ‘carve outs’) have appealed to the more adventurous and classically involve the retention of a lease in the property by the donor. Although upheld in the High Court in The Executors of Lady Jane Ingram deceased v IRC  STC 564, the future of such arrangements is in doubt given the Revenue’s well documented hostility and intention of appealing Ingramto the House of Lords if necessary. Some ‘carve outs’ are accepted; for instance, the Capital Taxes Office are believed to take the view that when a donor retains, for example, rights of way (or water or drainage) over gifted land which are essential to the continued enjoyment of land remaining in his ownership and those rights flow (sic) naturally from the division of the Estate in the same way as if the gifted property were being sold at arms length, the retention of those rights by a donor does not of itself amount to a reservation. Shared occupation of a dwelling house may present no problems; the position being set out in the following Parliamentary statement;
‘… elderly parents make unconditional gifts of undivided shares in their house to their children and the parents and the children occupy the property as their family home, each owner bearing his or her share of the running costs. In those circumstances, the parents’ occupation or enjoyment of the part of the house they have given away is in return for a similar enjoyment of the children of the other part of the property. Thus the donors’ occupation is for a full consideration’. (Hansard, Standing Committee G, June 10, 1986)
For a true alternative to the classic shearing operation, given the Ingramuncertainties, however, practitioners are increasingly considering the use of reversionary leases; these are arrangements whereby a freeholder grants a long lease over his property to commence in (say) 21 years’ time.
V Wills and Re Benham
In the golden age of law reporting, cases considered ‘wrong’ were not reported: today every decision appears to be preserved in aspic. Benham is, at best, a ‘dodgy’ case requiring – in a situation where residue is to be divided between exempt (eg spouse) and non-exempt (eg children) beneficiaries – that the chargeable gifts be grossed up so that after they have borne their correct share of Inheritance Tax they are of the same value as exempt gifts. Helpfully the Capital taxes office have indicated that they consider Benhamto be a case on its own facts but personal representatives are still left in something of a dilemma being uncertain whether any chargeable beneficiaries will claim to have their gifts grossed up. Hopefully further cases in 1997 will shed light on this unsatisfactory area. Will draftsmen, aware of Benham should draft residue clauses to ensure that the position is clear and the following precedent, taken from Butterworths’ Wills, Probate and Administration Service 1A22 may be employed:
‘(a) as to one share absolutely for my wife (husband) [or give name already defined as such ] if he [she] survives me for 28 days
(b) as to another share (or as to the whole if the preceding gift fails) for all of my children as are alive at my death [and reach the age of ] and if more than one in equal shares Provided that if any child of mine [is already dead or] dies before me [or before reaching that age] but leaves a child or children alive at the death of the survivor of my child and me who reach the age of  or marry under that age then such child or children shall take absolutely and if more than one in equal shares so much of the Trust Fund as that child of mine would have taken on attaining a vested interest AND the shares given by (a) and (b) above shall be in such shares as [before][after] the deduction of any Inheritance Tax attributable to them
respectively are of equal value [or are of values bearing to one another the proportion [2:1] (the larger share being given by (a) [(b)])]’
VI Appointments and Frankland
Frankland v IRC  STC 735 came as a shock to some, although the Inheritance Tax trap involved has been widely discussed. In essence, if property is left on discretionary trusts and those trusts are then ended within two years of death – for instance, by conversion to life interest trusts or by outright appointments being made – in circumstances where an ‘exit’ charge would normally arise then IHTA 1984 s144 affords a measure of relief. First, the exit charge that normally arises is not levied and, second, the will is treated as ‘altered’ for IHT purposes to take account of the situation that then prevails. InFrankland the discretionary will trust was ended on 22 December 1987 by an appointment in favour of the Testator’s surviving spouse, the Testator himself having died on 26 September. Unfortunately (an understatement!) because an exit charge does not apply to discretionary trusts which come to an end within three months of their creation, the conditions for the s144 relief were not satisfied so that reading back the appointment in favour of the spouse was not permissible and some £2 million in Inheritance Tax was payable. If only the appointment had been made some four days later!
It is possible to combine these so-called two year discretionary trusts with instruments of variation as illustrated in the following diagrams.
In case I an appointment under the discretionary trust in favour of A is varied by A in favour of B within two years of T’s death and full reading back is allowed. In case II A now varies his entitlement under the Will on to discretionary trusts under which an appointment is made, still within two years of T’s death, and again full reading back is allowed.
VII Variations and Gift Aid
Finally, it is worth noting that the so-called gift aid double-dip is under threat. This involves a beneficiary under a Will entering into an instrument of variation whereby property passes to charity. For Inheritance Tax purposes reading back will ensure that the charitable gift is exempt (so that there will be a refund of Inheritance Tax in appropriate cases); however, the concept of reading back whilst relevant for Inheritance Tax, and to some extent, for Capital Gains Tax has no application in other areas and so for income tax the relevant beneficiary should be entitled to claim gift aid relief. In the past such arrangements appear to have passed through unchallenged but recently the Revenue have begun to query the availability of gift aid relief on the basis of the wording in FA 1990 s 25(2)(e): ie on the basis that the donor has received a benefit (presumably in the form of a refund made to the Estate of the Inheritance Tax ) in exchange for the gift to charity. It is thought that such arguments are misconceived; in any event a test case before the Commissioners is pending.
© Chris Whitehouse