In the second half of his analysis of the OTS's report on simplifying IHT, Neil MacGillivray says advisers must be aware of possible changes, how they could impact their clients and whether it is prudent to take action now
In my previous column, I wrote about some of the changes relating to lifetime gifting as recommended in the report Simplifying the design of IHT by the Office of Tax Simplification (OTS). There was a significant amount of content in the 103-page document and I thought it might be worthwhile covering some of the other proposals and how the impact they could have on your clients.
As established in my previous blog, it was not all doom and gloom and the positives continue. One specific piece of good news for the life industry is the recommendation that death benefit payments from term life insurance should automatically be free of inheritance tax (IHT).
The fact that currently the death benefits of a term life insurance policy written in trust can be paid free of IHT makes this proposal seem logical. Furthermore, this resolves the issue for many existing policies that are not written in trust for, at present, those death benefits are potentially taxable.
Another area looked at was simplifying and clarifying the rules on liability for the payment of tax on lifetime gifts to individuals and the allocation of the nil-rate band (NRB). Where gifts made prior to the death of the donor are in excess of the NRB, who ultimately bears the tax can have unintended consequences.
It is well understood that the NRB is allocated to lifetime gifts in chronological order. What is not perhaps appreciated is it is the recipient of a lifetime gift who is liable for any IHT payable on that gift - but, if the recipient does not pay the tax within 12 months, then the estate becomes jointly liable. As executors are personally liable for unpaid IHT, this could lead them to delay distributing the estate until they are absolutely satisfied no further IHT is due on previous gifts.
Consider a simple example, ignoring exemptions, where John gifted £325,000 to his nephew Robert in 2015 and, in the following year, he gifted the same amount to his niece Karen. John died in 2018 - therefore the gift to Robert was covered by the full NRB. The gift to Karen on the other hand is liable to IHT at 40%. This would leave her £130,000 worse off than Robert, and Karen - being unaware of a possible tax liability - may have spent the money.
Two options have been proposed around the tax on lifetime gifts.
- any IHT due in relation to lifetime gifts to individuals should be payable by the estate, and
- the NRB should no longer be allocated to lifetime gifts in chronological order but, rather, first be allocated proportionately across the total value of all the lifetime gifts, with any remainder being available to the deceased's estate.
- executors to be liable for IHT relating to lifetime gifts only out of assets they handle, and which are due to be distributed to the gift recipient in question, and if it has not proved possible for HMRC to collect the money directly from the gift recipient.
I doubt allocating the NRB proportionately on lifetime gifts will actually simplify matters but it will ensure in situations like the one in the above example that beneficiaries are treated in a fairer manner and reviewing who actually is liable for the tax should prevent unwanted surprises.
IHT relief or exemption
Finally, where a relief or exemption from IHT applies, the OTS has suggested the capital gains (CGT) uplift should be replaced, with the recipient being deemed to have acquired the assets at the historic base cost of the person who has died.
In layman's terms, the person inheriting an asset currently acquires it at its market value on the date of death. Where an asset is also exempted or relieved from IHT - for example, business relief or agricultural property relief or where the spouse exemption applies - the asset can be sold just after death without either IHT or CGT arising. This may lead people to defer passing on assets during their lifetime.
By way of an example for this, the owner of a farm may be too old to manage the business and, for the future success of the business, it may be appropriate to pass it on. The option for wiping out any CGT on death, however, justifies the retention by the present owner.
The current tax regime could be construed as distorting and further complicating the decision-making process around passing on assets. The proposal not to wipe out any CGT liability on death may make the decision to pass the farm on more straightforward.
The imponderable will be how many, if any, of these recommendations will actually be taken up - the issue of which will be exacerbated by a new chancellor now being in situ. It is important, though, that advisers are aware of these possible changes, how they could impact their clients and whether it is prudent to take any action now.
Neil MacGillivray is head of technical support at James Hay
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