For many years, certain tax planners used life insurance as a means of avoiding capital gains tax (C...
For many years, certain tax planners used life insurance as a means of avoiding capital gains tax (CGT) on private company shares. Does a recent case drive a final nail in the coffin of this planning?
The basis of the planning was to use the tax efficient life wrapper to avoid CGT on the sale of a private company. Because the sale happened within the bond, no CGT was chargeable and the cash could remain in the bond until the policyholder was ready to take the benefits. In addition to this, some bonds would be set up in the ownership of an offshore company. The thinking here was that, due to the time apportionment relief formula, the gains could not be charged to UK tax as the policyholder never became UK resident. There was no equivalent to the settlor charge in relation to bonds held in an offshore company, so the gains were totally tax free.
It was also possible to transfer the company into the structure without creating a CGT charge - very useful if a company had large inherent gains. This was done by setting up the bond, which owned an offshore holding company, which itself owned an onshore company. The 'target' company was then transferred to the UK company. This transaction qualified for holdover relief under s165 TCGA 1992. When a buyer was located for the company, the offshore company was sold within the bond, giving that magic tax-free gain.
These schemes fell out of use in 1998 due to a number of significant changes:
• Introduction of the PPB rules.
• Removing tax-free gains on bonds held by offshore companies.
• The abolition of s165 holdover relief.
• Introduction of business assets taper relief.
The Revenue has also attacked past schemes, particularly in denying holdover relief on the transfer of the private company. That was the subject of a recent case heard at the Special Commissioners.
The case involved a typical scheme incorporating all the steps outlined above. The Revenue said that s167(2)(b), which restricts the relief in the case of gifts to companies, applied because the life company was connected to the client through s286(7), as they acted together to secure control of the underlying company.
The issue was whether the client continued to exercise his former role as shareholder to secure control of the underlying company together with the actual shareholder, the life company. The Special Commissioner said that the legal position created by the scheme was that, despite the life company being the legal and beneficial owner of the underlying company, the bondholder held contractual rather than ownership rights representing the value of the shares. Under the scheme, the appellants changed from being owners of the shares to life tenants of the settlements, which held contractual rights worth the value of the shares. Thus the life company had no real economic interest in the shares. The only reason the underlying company was acquired was to enable the client's scheme to be completed by the gift of the shares. In this, the client acted with the life company to secure control of the underlying company.
The Special Commissioner found that the client's actions were far beyond those of a director negotiating a sale. He made all the decisions relating to the sale, while the life company made none. Therefore, the appellants and the life company were connected persons and s167(2) prevented holdover relief applying to the gift of shares.
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