Rob Noble-Warren, founder of Independence Financial Planning, solves the estate planning problems for a UK-domiciled South African
My client was a South African man, long enough resident in the UK to become a deemed domicile here and happy enough to ignore the weather.
The problem was that his £3m house was the main asset of his estate, and our projections for his likely estate over the next 40 years kept reporting a likely value of £3m in real terms at the point of death. The leasehold house would decline in value after 2040, because its lease was due in 2065 - and the rest of his estate should grow. So, although the proportions would change, the problem was that there would be a £1.3m tax charge on his death, and the house would have to be sold.
From time to time the client would enthusiastically go on holiday with his two daughters and his ex-wife. Praising her for being a 'good mother' he would, nevertheless, disclose total determination never to get married again. His ex-wife was also living in his house in a sub-flat. Under the client's will, she was left £200,000. We wondered whether she would want to challenge the will as a dependant. The lawyers thought she might.
We had been considering the 'main residence' inheritance tax (IHT) schemes - the Eversden Scheme, the Ingram scheme, the Main Residence Trust or Double Trust Scheme and the Reversionary Lease Scheme. All of these had been spiked by the Chancellor of the Exchequer in December 2003 when he said that measures would be introduced to tackle tax evasion. This tax on the enjoyment of pre-owned assets appears in Schedule 15 of the Finance Act 2004. The Government had become irritated by the tax avoidance industry and responded with a new tax bolted onto the reservation of title rules.
The tax is an income tax charge on an individual who occupies land, who has possession of chattels or is able to benefit from 'intangibles'. Intangible assets are anything other than land and chattels, and include cash, but this category of assets only falls within the legislation when it is held in a trust structure. And, of course, the Chancellor has made it all retrospective back to 1986.
What this made us do was reconsider what the game of avoiding IHT had become. Was it still possible to recommend a packaged tax mitigation scheme, knowing that (a) it was in the interests of the packagers to sell as many schemes as possible so (b) that would irritate the Revenue - especially if it worked - so (c) the law would be changed retrospectively. Our conclusion was either you needed to have enough money at stake to play the game continuously - which meant packaged schemes were out - or the tax saving scheme you came up with was simple, individual and bespoke.
The client was a couple of years into a long negotiation to buy the freehold of his property. We suggested his daughters buy it instead. Our intention was to have the freehold outside his estate and, since it would be a growing asset, there would be a transfer of value from his estate to the freehold the older he got. But there would be taxable gift. The pre-owned assets mélange applies only to pre-owned assets and, since he had never owned the freehold, there was no problem with IHT.
But was there a problem with gains tax? Could the daughters be said to own part of the main residence and thereby obtain a main residence relief on the eventual sale of the freehold? Private residence relief applies to certain disposals of dwelling houses or of interests in dwelling houses. But there is no definition of 'an interest in a dwelling-house'.
Section 1(2) of the Law of Property Act 1925 provides that only certain matters can be interests in or over land at law - however, in practice, this limited definition is not followed and the phrase is, according to Tolleys, "interpreted widely to include any interest such as a freehold, leasehold or licence, and to encompass joint ownership".
Consequently 'ownership' encompasses holding a beneficial interest in one of these forms of the property concerned, including the leasehold, so that seemed to work. It should be gains tax-free for the daughters.
Before patting ourselves on the back, however, we realised we had not solved the client's current problem - merely avoided making it worse. He still had the £1.3m tax charge on his estate and, if he died now, the house would have to be sold and his daughters and ex-wife would be seeking somewhere else to live.
There were a few other things we could do. Part of his estate was a dental practice, for which he had borrowed £150,000. We asked him to change the named borrower so that it became his personal loan - he was already acting as guarantor. The effect we were after was to reduce his estate by the size of the loan and increase the net value of the business assets, which would be exempt from IHT.
Then we were down to assurance in trust - something we look to avoid doing if at all possible on the simple grounds that it is expensive. But mortgage protection cover had the right shape and is so widely used that it has become good value. £1m cover over 15 years - to take the daughters to the age of 27 - meant they could stay in their home if he died in the next 10 years.
Being the kind of fellow he is, our client took all this with a wonderment that we actually spent our lives doing something so disconnected with real life, looked at the bottom line and said: "Fine". We reckon he is planning to live until the day before the leasehold runs out.
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